Sec Lit IQ: MoFo’s Quarterly Federal Securities Litigation and Delaware Corporate Litigation Newsletter (Q1 2025)

In our second edition of MoFo’s quarterly federal securities and Delaware corporate litigation newsletter, we provide a rundown of select developments from the first quarter of 2025.

Recent Developments in Federal Private Securities Litigation

The Ninth Circuit Confirms That Plaintiffs Must Be Able to Trace Their Shares in Order to Sue Under Both Sections 11 and 12(a)(2).

On February 10, 2025, the Ninth Circuit confirmed that, like Section 11, Section 12 requires plaintiffs to be able to trace their shares to the allegedly misleading registration statement. 

By way of background, Section 11 imposes strict liability for false or misleading statements in a registration statement. Because the liability standard for Section 11 violations is so severe, under long-standing precedent, in order to have standing to bring such claims, a shareholder must be able to trace his shares to the challenged registration statement. Meeting this tracing requirement is close to impossible when a company goes public through a direct listing:  in a direct listing, the company lists already-issued shares held by existing shareholders, instead of shares newly issued under an IPO registration statement.

In Pirani v. Slack Technologies, Inc., plaintiff Pirani sued Slack—which went public through a direct listing—for alleged violations of Sections 11, 12, and 15. Slack moved to dismiss, arguing that plaintiff could never trace his shares. Both the Northern District of California and the Ninth Circuit disagreed that tracing was required at the pleading stage, denying and affirming denial, respectively, of Slack’s motion. In 2023, the Supreme Court vacated the Ninth Circuit’s ruling, confirming that even at the pleading stage, shareholders must adequately allege that they can trace their shares in order to have standing to sue under Section 11. Even still, the Supreme Court left some ambiguity about the requirements for stating a Section 12 claim, noting that it did not agree with the Ninth Circuit that Section 11 and Section 12 “necessarily travel together” and vacating the appellate court’s judgment as to that claim as well. 

On remand, the Ninth Circuit held that plaintiff could not state a Section 11 claim in light of the Supreme Court’s confirmation of the tracing requirements and plaintiff’s concession, in opposing Slack’s motion to dismiss, that tracing “is a concept that no longer exists in today’s market and is not possible.”  While acknowledging the Supreme Court’s caution that the two claims do not rise and fall together, the Ninth Circuit nevertheless concluded that plaintiffs must likewise be able to trace their shares to sue under Section 12 and that plaintiff’s concession barred his Section 12 claim. The Ninth Circuit thus reversed the district court’s denial of the motion to dismiss, with instruction to dismiss the complaint in full and with prejudice.

Takeaways:

• At least within the Ninth Circuit, Section 12 claims, like Section 11 claims, require that a plaintiff be able to trace the chain of title of their shares back to the purportedly misleading registration statement. 
• Direct listings may offer an advantage to companies over IPOs:  shareholders will find it notably harder to trace shares purchased in a direct listing, curtailing their standing to bring claims under both Sections 11 and 12.

The Second Circuit Applies Fraud-on-the-Market in the Merger Context.

In a February 3, 2025 decision in In re Shanda Games Ltd. Securities Litigation, the Second Circuit held that the fraud-on-the-market presumption is available to minority shareholders who sell their shares in a freeze-out merger. Relying on the principle that the price of public securities automatically incorporates all public information, the fraud-on-the-market presumption allows securities fraud plaintiffs to sidestep the requirement of proving the element of reliance by assuming that investors necessarily rely on issuers’ public statements. This ruling expands the availability of the presumption beyond investors who buy and sell shares on the open market.

Shanda Games Limited is an online video game developer. In 2015, the company announced a proposed freeze-out merger, in which the company would be purchased by several board members and the CEO. Though minority shareholders could not stop the merger from happening, they could exercise appraisal rights and receive a court-determined fair value for their shares instead of tendering their shares and receiving the merger consideration. The merger was effectuated three months later.

Plaintiffs argued that they relied on allegedly misleading proxy statements issued in connection with the merger when deciding not to exercise their appraisal rights. A later appraisal action determined that the merger price was approximately 55% of the fair value of Shanda shares. Plaintiffs brought suit against the company in the Southern District of New York under Sections 10(b), 20A, and 20(a) of the Securities Exchange Act of 1934, claiming that the company and its officers and directors made material misstatements and omissions in the proxy statements, in efforts to conceal the unfairness of the merger price and to discourage the exercise of appraisal rights, causing financial loss to plaintiffs who tendered their shares.

While the district court dismissed plaintiffs’ Section 10(b) claims for failure to plead loss causation, the Second Circuit reversed. In doing so, however, the appellate court agreed with the district court’s conclusion that plaintiffs could plead reliance by invoking the fraud-on-the-market presumption, despite the fact that they did not trade their shares on the open market. The court reasoned that most shareholders considering whether to accept a merger price or seek appraisal would presumably rely on the stock’s market price in determining the value of their shares and making that decision.

Takeaways:

• The fraud-on-the-market presumption may be invoked by minority shareholder plaintiffs who sell their shares in a freeze-out merger.
• It remains to be seen whether courts will limit the expansion of fraud-on-the-market to the specific fact pattern in Shanda Games. This holding may encourage other enterprising plaintiffs who did not purchase on the open market to sue under Section 10(b) under creative theories. 

Delaware Focus

S.B. 21 Signed into Law.

On March 25, 2025, the Delaware House of Representatives passed S.B. 21, legislation drafted in response to the increasing number of companies considering reincorporation in states like Texas and Nevada.  Delaware Governor Matt Meyer has argued that S.B. 21 addresses the concerns of business leaders who claim that recent Court of Chancery crackdowns on purported conflicts of interest are driving them to other states.  

S.B. 21 makes several key changes to Title 8 of the Delaware Code, Delaware’s General Corporation Law (DGCL):

• It establishes safe harbors for acts or transactions involving directors, officers, controlling stockholders, or control groups with possible conflicts of interest, protecting such acts or transactions if approved by a majority of disinterested directors or stockholders.  
• It defines “controlling stockholder” as someone who owns or controls at least one-third of the company’s voting power and eliminates controlling stockholders’ liability for money damages for fiduciary duty breaches not involving breach of the duty of loyalty, acts in bad faith, intentional misconduct, knowing violation of law, or derivation of improper personal benefit.
• It strengthens the presumption of disinterestedness for directors who satisfy national securities exchanges’ criteria for independence. This presumption can only be rebutted as to such directors by “substantial and particularized facts” showing that the director is materially conflicted.
• It restricts the range of materials subject to inspection under DGCL § 220, clarifying that “books and records” means core formal materials like certificates of incorporation, corporate bylaws, board minutes and materials, annual financial statements, and director and officer questionnaires.

Takeaways:

• S.B. 21 clarifies who counts as a controlling stockholder and reduces their exposure to liability for monetary damages. It also reduces corporate exposure for potentially conflicted transactions.

• Stockholder plaintiffs making inspection demands under DGCL § 220 will likely find it more difficult to obtain documents beyond core corporate materials, such as emails and other informal communications.