Securities Law Alert
In This Edition:• Eleventh Circuit: Solicitation of Unregistered Securities Under Section 12 Can Occur ThroughOnline Videos, Including on Social Media• Northern District of California: Denies Dismissal Concerning Tech Company’s Claim That It Offered
End-to-End Encryption• Court of Chancery of Delaware: Creditor Deemed a Controller by Dint of Its Voting Power andConsequently Owed Stockholders a Duty of Loyalty
March 2022

Eleventh Circuit: Solicitationof Unregistered Securities
Under Section 12 Can OccurThrough Online Videos,Including on Social Media

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On February 18, 2022, the Eleventh Circuit
reversed the district court’s dismissal of aclass action alleging that the promoters ofa new cryptocurrency violated Section 12 of
the Securities Act by soliciting the purchaseof unregistered securities through online
videos. Wildes v. BitConnect, 25 F.4th 1341
(11th Cir. 2022) (Grant, J.). The court heldthat neither the Securities Act nor Eleventh
Circuit precedent restrict liability to sales
pitches to individual people, while excluding
liability for communications directed tothe public at large. Noting that solicitation
has long occurred through other masscommunications, the court determinedthat solicitation under Section 12 can occur
through online videos.

Background
This case arose from an online lending
platform where users could trade their digital
Simpson Thacher & Bartlett LLP

currency for the platform’s native token—a
new cryptocurrency—and earn interest basedon their token holdings. Promoters of thecryptocurrency posted thousands of videos
online, on independent websites as well associal media, urging people to buy the newcryptocurrency. The videos were viewed
millions of times.
Following scrutiny by state regulators, thetrading platform closed, and the value ofthe cryptocurrency fell by almost 90%.
Subsequently, buyers of the cryptocurrency
sued alleging that the promoters of thecryptocurrency were liable under Section
12 of the Securities Act for soliciting thepurchase of unregistered securities throughtheir videos. The promoters moved todismiss, arguing that their videos did not“directly communicate” with plaintiffs andthat “the Securities Act covers sales pitches
to particular people, not communications
directed to the public at large.” The district
court dismissed, concluding that plaintiffs
failed to state a Section 12 claim because
they based their case on interactions with thepromoters’ “publicly available content” andthat they needed to allege that the promoters
had “individually” urged plaintiffs to purchasethe cryptocurrency.

Promoting a Security in a Mass
Communication Is Solicitation
The Eleventh Circuit framed the issue as“whether a person can solicit a purchase,
within the meaning of the Securities
Act, by promoting a security in a masscommunication.” The court began its
analysis by noting that “nothing in theSecurities Act makes a distinction between
individually targeted sales efforts andbroadly disseminated pitches.” The court
continued that Section 12 authorizes buyersof an unregistered security to sue a person
who “offers or sells” it. Under the Securities
Act, “a person offers a security every time hemakes an offer to dispose of—or a solicitationof an offer to buy—a security for value.”
The court noted that Congress did not limit
solicitations to “personal” or individualized
ones as the district court did. Pointing outthat the Securities Act suggests the opposite,
the court explained that the Securities Act“makes a person who solicits the purchaseof an unregistered security liable for using‘any means’ of communication[,]” which
the Securities Act defines to include radio
and television advertisements. The court
further stated that “Securities Act precedents
do not restrict solicitations under the Act
to targeted ones.” The court noted that
the Eleventh Circuit has “never added thatthose efforts at persuasion must be personalor individualized.”

cryptocurrency in online videos, they solicitedthe purchases that followed.

Northern District ofCalifornia: Denies Dismissal
Concerning Tech Company’s
Claim That It Offered End-toEnd Encryption
On February 16, 2022, the Northern Districtof California dismissed claims in a securities
fraud class action against a tech company
and its CEO based on 14 alleged false andmisleading statements and omissions
regarding the company’s operations and its
collection and use of users’ personal data.
In re Zoom Sec. Litig., 2022 WL 484974(N.D. Cal. 2022) (Donato, J.). However, thecourt denied dismissal regarding defendants’statement that the company offered endto-end encryption. As to this statement, thecourt determined that plaintiff satisfied thefalsity element by alleging that defendants
represented that the company offered “endto-end encryption” when it did not.

Solicitation Under the Securities
Act Encompasses “New Meansof Solicitation”
The Eleventh Circuit took issue with thedistrict court’s “cramped” reading of theSecurities Act, which under its interpretation
would hold a seller liable for recommending
a security in a personal letter but not“for making the exact same pitch in aninternet video—or through other forms ofcommunication listed as exemplars in theAct, like circulars, radio advertisements, andtelevision commercials.” The court declined
to adopt an approach that would allow a seller
to dodge liability by selecting one means ofcommunication over another, particularly
where the Act expressly covers “any means”
of communication. Determining that a“new means of solicitation is not any less ofa solicitation[,]” the court concluded thatwhen the promoters urged people to buy theThe statement at issue appeared in thecompany’s April 2019 Registration Statement
and Prospectus, which stated, “We offer
robust security capabilities, including endto-end encryption[.]” Plaintiff claimed
this statement violated Section 10(b) bymaking false and misleading statements
and omissions concerning the ability to use
end-to-end encryption in the company’s main
product offering.
2

Determining that plaintiff satisfied the falsity
element for this statement, the court pointed
to plaintiff’s allegation that “end-to-endencryption means that not even the company
that runs the messaging service can accessthe cryptographic keys necessary to decrypt
the end users’ communication,” while thecompany “secretly maintained access to thecryptographic keys that could allow [it] todecrypt and decipher the communications
between the end users.”
Defendants argued that plaintiff’s falsity
allegations were insufficient because the term
“end-to-end encryption” can have different
meanings. The court, however, rejected thisargument, explaining that defendants’ own
statements, as alleged in the complaint,
demonstrated otherwise. In a company blog
post, the CEO stated that, “we recognize that
we have fallen short of the community’s—andour own—privacy and security expectations.”
The CEO’s post also referred and linked to apost by the company’s Chief Product Officer
stating “we want to start by apologizing forthe confusion we have caused by incorrectlysuggesting that [our] meetings were capableof using end-to-end encryption. While
we never intended to deceive any of ourcustomers, we recognize that there is adiscrepancy between the commonly accepted
definition of end-to-end encryption and how
we were using it.”
The court observed that plaintiff’s allegations
distinguish this case from Wochos v. Tesla,
985 F.3d 1180 (9th Cir. 2021).1 In Wochos,the Ninth Circuit found that plaintiffs pleaded
1. Please click here to read our discussion of the Ninth Circuit’s
decision in Wochos v. Tesla.

no facts to support their premise that theterm “production car” had the distinctive
and false meaning that plaintiffs claimed itdid. By contrast, the court stated that here
plaintiff identified defendants’ “expressacknowledgement” that they had “incorrectlysuggested” their product was capable of using
end-to-end encryption, and they had used theterm end-to-end encryption “differently fromthe commonly accepted definition.”

Court of Chancery of
Delaware: Creditor Deemeda Controller by Dint of
Its Voting Power andConsequently Owed
Stockholders a Duty of Loyalty
On February 28, 2022, the Court of Chanceryof Delaware denied dismissal of a breachof fiduciary duty claim in a putative classaction brought by a target company’s former
stockholders against the target’s largest
creditor, which had threatened to block
the target’s pending SPAC merger unlessthe target’s board agreed to a series ofamendments to debt and warrant agreements.
Blue v. Fireman, 2022 WL 593899 (Del. Ch.
2022) (Zurn, V.C.). The court concluded thatplaintiffs sufficiently pled that the creditor
was the target’s controller by virtue of its
voting power and, therefore, owed the target’s
stockholders a duty of loyalty. The court
further determined that plaintiffs pled thatthe creditor breached that duty by refusing to3vote its proxy in favor of the merger unless it
received the amendments it sought.

BackgroundIn 2020, around the time the target wasnegotiating the key terms of its pending
merger with a SPAC, its largest creditor
demanded favorable amendments to debt
and warrant agreements. The creditor
controlled 83% of the target’s voting power
through an irrevocable proxy. After the target
board unanimously approved the merger
documents, the creditor declared that it would
not vote its proxy in favor of the merger
unless its demands were met. The target
board went on to approve the amendments
and announced the merger, which was valued
at approximately $120 million. Plaintiffs,
former target stockholders, commenced
this action alleging breach of fiduciary duty,
among other claims, against the creditor
and its affiliates as controllers, and certain
directors the creditor had appointed to thetarget’s board. Plaintiffs alleged that as aresult of the amendments, $40 million inmerger consideration was diverted fromthe target’s stockholders to the creditor.
Defendants moved to dismiss.

Plaintiffs’ Breach of Fiduciary Duty
Claim Was Direct
As a threshold matter, the court determinedthat plaintiffs’ claims were direct, notderivative, such that plaintiffs’ standing wasnot extinguished by the merger. Referencing
longstanding Delaware precedent, the court
specifically determined that plaintiffs’ breachof fiduciary duty claim was direct because

it alleged that the merger was unfair due tothe improper, material diversion of merger
proceeds from the stockholders to thecreditor.2
The court explained that plaintiffs allegedthat the board’s decision to approve theamendments diverted merger proceeds toa controller—the creditor—in a way that“tainted the merger’s fairness and materiallyreduced the merger consideration for [thetarget’s] other stockholders.” The court also
found that the timing of the amendments withrespect to the merger negotiations indicatedthe diverted consideration would haveotherwise gone to the stockholders, whichcalled the merger’s fairness into question.
As to whether the diversion was improper,
the court noted that the creditor “was able towield its influence to extract a benefit for itself
at the expense of [the target’s] stockholders.”
The court pointed out that even though thecreditor did not actually use its proxy to block
the merger, it “does not mean its threats to doso are not improper.”Plaintiffs Pled the Creditor Is aController
The court determined that plaintiffs pledthat the creditor, standing alone, was acontroller that owed fiduciary duties to thetarget stockholders. The court explained that“[o]ne method of pleading control sufficient
to impose fiduciary duties is to allege thata defendant has the ability to exercise amajority of the corporation’s voting power.”
Quoting Voigt v. Metcalf, 2020 WL 614999(Del. Ch. Feb. 10, 2020). The court continued
that “Delaware law is well-settled that astockholder who can exercise more than 50%
of a company’s voting power is a controller.”
The court emphasized that in this case thecreditor held both debt and its irrevocableproxy; that it was inconsequential that thecreditor secured its voting power via thecreditor-debtor relationship; and that thecreditor had control because it could votemost of the target’s stock, not because it held
most of the target’s debt.
2. “Golaine [v. Edwards, 1999 WL 1271882 (Del. Ch. 1999)], asapplied in Houseman, Straight Path, and Komen, instructs
that to be direct, the side transaction must divert merger
consideration from stockholders, rather than from theacquirer; the diversion must be ‘improper,’ that is, the productof misconduct by the defendants; and the diversion must
materially affect the merger’s process or price, calling themerger’s fairness or validity into question.”
4The court then determined that defendants
did not meaningfully dispute that plaintiffs
pled that the target’s fiduciaries breachedtheir duties. Specifically, the court determinedthat plaintiffs pled breaches in the director
defendants’ decision to approve theamendments and in the creditor’s role incausing the amendments to be approved.
The court further stated that the creditor’s
procurement of the amendments triggered
entire fairness review. The court stated that“[h]ere, as in Straight Path, [the creditor]
competed with [the target’s] common
stockholders by extracting a different
benefit (the Amendments) out of the Merger
consideration.”3

the amendments was not entirely clear
from the existing case law and requested
supplemental briefing on the scope of thecreditor’s burden under entire fairness.

Notably, the court stated that whether entire
fairness should apply to the merger or only
3. In re Straight Path Commc’ns Consol. S’holder Litig., 2018
WL 3120804 (Del. Ch. June 25, 2018).

This edition of theSecurities Law Alert was edited byLynn Neuner / +1-212-455-2696
lneuner@stblaw.com
Jonathan Youngwood / +1-212-455-3539
jyoungwood@stblaw.com andJanet Gochman / +1-212-455-2815
jgochman@stblaw.com

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