The COVID-19 pandemic has brought great economic uncertainty and significant market volatility, creating an environment where investors that are trying to assess the financial impact of the virus are looking to glean any insight they can from a company's disclosures and are hanging on every statement made by company leaders. This environment of heightened investor focus has, not surprisingly, increased the legal risks that companies, their officers, and their directors face when informing the market about the impact of COVID-19. The coming months are likely to see increased activity from both the SEC Enforcement Division and from plaintiffs' firms bringing shareholder suits challenging overly optimistic disclosures companies make about their capacity to manage the challenges presented by the pandemic. Consequently, disclosures concerning the business and financial risks to a company posed by COVID-19 must be made with the utmost prudence and caution to limit a company's exposure to actions brought by the SEC Enforcement Division or shareholder suits.
The SEC Enforcement Division has already issued general warnings about increased activity in the coming months, with Enforcement Division co-directors Stephanie Avakian and Steven Peikin issuing a public statement that material nonpublic information amid the pandemic "may hold an even greater value than under normal circumstances." Statements like these should make it clear to companies and their officers and directors that they need to be especially mindful of their disclosure obligations to avoid coming under SEC scrutiny.
Moreover, similar considerations must come into play to limit the risk posed by the filing of shareholder suits. As would be expected, suits of this nature have already been filed. One such example is the shareholder suit filed against Norwegian Cruise Lines and relevant key persons at the company on March 31. The suit alleges the company had downplayed the seriousness of COVID-19 in order to maintain its bookings, despite possessing knowledge of the seriousness of the virus. Specifically, the suit alleges that, based on passengers testing positive on the Diamond Princess cruise ship on February 19th, and Norwegian's CEO selling $207,000 worth of Norwegian common stock at $51.80 the very next day, the company had knowledge of the risks posed by COVID-19 and then made materially false and misleading statements to obscure those risks.
The statements at issue were made in the company's 8-K, an accompanying press release, an analyst call, and the company's 10-K for 2019. The complaint highlighted company statements that painted an overly optimistic outlook for the company, including that the company had implemented "preventative measures" to reduce exposure to the virus and that the company had "overcome challenges similar to COVID-19" so it was confident "this challenge will be no different." In addition to these allegedly inaccurate statements, the suit further alleges the company was employing sales tactics of providing customers with unproven or false statements about COVID-19 to entice customers to purchase cruises and thus preserve the company's reported bookings, a key financial metric. Examples included using talking points with customers that the virus could only survive in cold temperatures and that the "only thing you need to worry about for your cruise is do you have enough sunscreen?" According to the complaint, public media reports exposed these tactics and enabled the truth to emerge. .
Another action, alleging misrepresentations at the highest level, was filed against Inovio Pharmaceuticals, Inc. and Joseph Kim, the company's President and CEO, in March. The statements at issue in that suit are Kim's public claims, which were reiterated in a company 8-K, that the company had constructed a vaccine for COVID-19 and was ready to start human clinical trials in April. Following these statements, the value of the company's common stock skyrocketed, from $4.39 on March 2, 2020 to $19.36 per share on March 9, 2020. However, upon the publication of a negative statement by a prominent pharmaceutical research firm on March 9 calling Kim's claims "ludicrous and dangerous," the stock closed at $5.70 per share the next day, marking a fall of 71%.
Both suits seek class certification and compensatory damages. The Inovio suit also seeks punitive damages. These suits present a cautionary tale and offer guidance for companies about the risks they face when addressing issues concerning COVID-19. While the alleged misstatements in Inovio are particularly sensational and go directly to the company's claimed ability to combat COVID-19, the circumstances in the Norwegian suit are instructive. The allegations that the company made overly optimistic statements about its ability to manage the fallout from COVID-19, and that the company directed its employees to make misleading statements to customers in order to avoid the loss of business, are of the type likely to be lobbed at other companies as the volume of COVID-19 related disclosures increases over time. The primary lesson here is that the most effective way to avoid regulatory scrutiny and to limit the risk of a suit being filed - in addition to ensuring the truthfulness of any disclosure - is to be conservative with disclosures and solicitations that relate to the pandemic. In short, caution and prudence should carry the day when a company makes statements about how it intends to confront this unprecedented challenge.
Corporate Caution During COVID-19
Originally published April 28, 2020
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