THE FASHION LAW EXCLUSIVE – The RealReal will pay $11.5 million and make reforms to its corporate governance, including in connection with its authentication practices, whistle-blower policy, and oversight policy for “retail sales practices and customer relationships” in order to settle two ongoing shareholder lawsuits, assuming the two sets of plaintiffs get the green-light from the respective U.S. federal courts. As of this month, the plaintiffs in two separate matters filed against The RealReal have alerted courts in California and Delaware, respectively, that they have reached settlement agreements with the luxury reseller and its various directors and officers in developments that bring two headline-making cases closer to a final resolution following more than a year of litigation. 

In the first case, which was filed in the U.S. District Court for the Northern District of California in November 2019, lead plaintiff Michael Sanders accuses The RealReal, its founder and CEO Julie Wainwright, former Chief Financial Officer Matt Gustke, Chief Accounting Officer Steve Lo, board members like Stefan Larsson, and the company’s IPO underwriters, including Credit Suisse Securities, B of A Securities, and UBS Securities, among others, (the “defendants”) of running afoul of federal securities laws. 

Specifically, Sanders and fellow named plaintiffs Nubia Lorelle and Garth Wakeford allege that the defendants misled investors about the nature of The RealReal’s authentication process by making “false and misleading statements” in the offering documents issued in connection with its June 2019 IPO and in additional public statements made by the company thereafter. 

For instance, the plaintiffs have claimed that despite The RealReal’s claims in its 2019 IPO filings that its “highly trained experts build trust in our buyer base by thoroughly inspecting the quality and condition of, and authenticating, every item we receive,” The RealReal “authentication process fell far short of this description” because the “vast majority of items supposedly ‘authenticated’ by [the company] were actually reviewed only by … low-wage hourly employees, often with little or no experience in fashion or luxury products.”

The “false and misleading statements and omissions of material fact” that The RealReal and its management allegedly made about its “purported authentication process” served to “artificially inflate” the price of its shares, the plaintiffs argue, and then damage those same shareholders “when the artificial inflation dissipated” following multiple media reports about the “true” nature of The RealReal’s authentication process.

In the unopposed motion for preliminary approval of settlement that they filed on November 5, the plaintiffs alert the court of the proposed settlement, which includes an $11 million sum to be shared among class members and their counsel. The plaintiffs contend that the scope of the settlement and corresponding release of the claims against the plaintiffs “is reasonable,” and that preliminary approval “is warranted because the settlement is the product of serious, informed, and non-collusive negotiations among experienced counsel and a highly-qualified mediator.” 

Aside from arguing that the court should preliminarily approve the settlement, the plaintiffs are pushing the court to find that the action and the settlement class – i.e., all persons and entities who purchased The RealReal common stock from June 27, 2019 through November 20, 2019, and were damaged – are suitable for class certification. Ultimately, the plaintiffs have asked the court to schedule a settlement hearing “to determine whether the proposed settlement, proposed plan of allocation, and lead counsel’s motion for an award of attorneys’ fees and expenses and compensatory award to the plaintiffs should be approved.” 

A hearing on the matter is slated for March 24. 

The plaintiffs’ filing comes almost exactly three months after The RealReal reported its earnings for Q2, in connection with which it cited a $70.7 million net loss for the period, including “a charge of approximately $11 million that was recorded as an accrued legal settlement.” At the time, TRR did not reveal what case the settlement stemmed from; although, TFL noted at the time that it was likely tied to the Sanders case.

Derivative Action Against The RealReal

Not the only settlement on the horizon for The RealReal, also on November 5, plaintiffs Iwona Grzelak and Junior Aguirre filed an unopposed motion for preliminary approval of derivative settlement in the similar – but separate – consolidated cases that they filed last year, accusing the company’s board members and management of “intentionally or recklessly breaching their fiduciary duties” as directors and/or officers, and violating the U.S. Securities Exchange Act in the process. 

In the corresponding support brief that they filed on November 5, Grzelak and Aguirre summarize the allegations at the heart of their case, asserting that while The RealReal has promoted itself – both in its IPO documentation and in subsequent statements by its management team – as “the world’s largest online marketplace for authenticated, consigned luxury goods,” its authentication operations were “nowhere near as robust as the defendants professed, and most items purportedly ‘authenticated’ by [TRR] were merely reviewed by TRR’s copywriters, who had minimal training or experience in fashion and authentication.” 

As a result, the two plaintiffs claim that “hundreds of counterfeit items supposedly processed by the [The RealReal’s] rigorous authentication procedures were sold to [its] customers,” and all the while, “between June 27, 2019, and November 20, 2019, the individual [officer and management] defendants breached their fiduciary duties by making and/or causing the company to make a series of materially false and misleading statements and omissions regarding [its] authentication processes, risk exposure and purported growth and success, and by failing to maintain internal controls.” 

Fast forward and following an attempt at mediation and three months of back-and-forth, the parties have reached an agreement on “the material terms of the settlement.” Now, before the U.S. District Court for the District of Delaware is a two-pronged settlement in furtherance of which TRR has agreed to “pay $500,000 to the plaintiffs’ counsel for their fees and expenses,” subject to court approval, and has agreed not to oppose “service awards” for the two plaintiffs to the tune of $1,500. Also at play are reforms, which “TRR, or its Board, as applicable, will implement … for no less than three years after the date upon which the court enters the final order and judgment.” 

Specifically tailored “to address, and mitigate risk of the recurrence of, the misconduct alleged in” the case at hand, the reforms require TRR to make corporate governance improvements, including by “incorporat[ing] semi-annual assessments of all authentication staff and certifications into the company’s existing training programs” by TRR’s Chief Operating Officer, who will “oversee TRR’s training for staff engaged in authenticating TRR’s products;” and adopting a new policy for board oversight over the company’s retail sales practices and customer relationships, including “semi-annual reporting to the Board by the COO or its designee concerning oversight over TRR’s retail sales practices and the Company’s customer relationships.”

Language from the plaintiffs’ filing re: whistle-blower policy reform

Beyond that, TRR will create a “management-level Risk and Compliance Committee to determine, implement, and assess TRR’s risk management policies and the operation of TRR’s risk management framework to identify TRR’s compliance risk exposure.” It will also make “amendments to [its] Whistleblower Policy and Procedures to specifically state that the company’s reporting channels may be used to ‘report concerns relating to business practices, ethical business or personal conduct, integrity, and professionalism.’”

The plaintiffs assert that the settlement reforms represent “a material and substantial improvement to TRR’s corporate governance and provide for new policies and procedures that will help to prevent a recurrence of the wrongdoing alleged” in the case at hand. 

In asking the court to preliminarily “approve the settlement, direct the issuance of the notice of the settlement, and schedule the settlement hearing to consider final approval of the settlement,” the plaintiffs contend that the settlement “meaningfully addresses the issues [that they] raised in the consolidated action and provides an excellent resolution for TRR by way of the reforms.”

TRR confirmed the settlement developments on Monday, stating that stipulations of settlement are subject to preliminary and final approval by the courts. The company and individual defendants also assert that they “are entering into this Settlement solely to eliminate the uncertainty, distraction, disruption, burden, risk, and expense of further litigation, and without admitting any wrongdoing or liability whatsoever.”

The RealReal’s Third Quarter Results

In addition to news on the settlement front, TRR reported its Q3 results this week, posting revenues of $118.84 million for the 3-month period that ran through September 2021, up 53% compared to Q3 2020 and up 46% compared to Q3 2019. The luxury reseller revealed that its gross merchandise value (i.e., the value of the luxury goods that it sold during the quarter) increased by 50% and 46% compared to the same periods in 2020 and 2019, respectively. Meanwhile, for the 757,000 orders it processed during Q3, the average value amounted to $486, a 9% boost on a year-over-year basis.

Legal settlement sums reflected in TRR’s Q3 operations statement

Reflecting on the state of the business, CEO and founder Julie Wainwright said in a statement on Monday, “We believe the operational and supply impacts to our business from COVID-19 are effectively behind us, and we are well-positioned for a strong holiday season. Additionally, we believe The RealReal’s unique business model is largely insulated from the supply chain shortages and certain of the inflationary impacts many retailers are experiencing.”

Wainwright further asserted, “Overall, our business is experiencing very positive trends and we believe these trends will continue through the end of the year and into 2022. While we are in the early innings of delivering operating expense leverage, we believe the company is starting to see the benefits of our previous investments, which will create leverage as we drive toward profitability in the coming quarters.”

The cases are Sanders, et al. v. The RealReal, Inc., et al. 5:19-cv-07737 (N.D. Cal), and Iwona Grzelak v. Julie Wainwright, et al, 1:20-cv-01212 (D. Del.). 

UPDATED (Nov. 10, 2021): Story has been updated to clarify that the stipulated settlement reforms refer to corporate governance and to make specific mention of a line in the stipulated settlement in which the defendants do not “any wrongdoing or liability whatsoever.”

After mentioning Environmental, Social, and Governance – or “ESG” – almost 100 times in the nearly 60-page S-1 that it filed with the Securities and Exchange Commission (“SEC”) in August, Allbirds is reigning its sustainability-centric declarations back a bit. In an amendment form filed with the securities and stock market regulator on Monday, the San Francisco-based brand best known for its lineup of eco-friendly wool trainers “removed several key references to the sustainability principles and objectives framework” that it outlined in its earlier filing, according to the FT, cutting the number of references to the Sustainable Public Equity Offering framework from 65 to 33.

Interestingly, Allbirds has limited its language about the Sustainable Public Equity Offering framework and its applicability to other companies, as well as to investors in order to help them “better identify public companies that are committed to sustainability and positive outcomes for all stakeholders,” and has reined in its use of “ESG” – albeit minimally – from 89 times in the October 4 versus 91 times in August. At the same time, it has increased the use of other sustainability-centric buzzwords. For instance, the brand mentioned “sustainability” 112 times in its August 31 S-1; it mentions the term 129 times in the October 4 filing. 

Consumer & Regulator Attention

As the FT notes, the alterations to Allbirds’ S-1 come as the company has been facing “questions over the genuine sustainability of its business,” including a class action complaint accusing it of peddling “false, deceptive and misleading” ESG information in order to bank on the fact that “consumers are increasingly influenced” by companies’ business practices and prioritize companies that “act in a way that protects the environment, labor practices and animal welfare.” 

In the complaint that she filed this summer in a New York federal court, plaintiff Patricia Dwyer specifically alleges that Allbirds’ life cycle assessment tool – which identifies the carbon footprint of each product – does not assess the environmental impact beyond the manufacturing of the shoes, themselves, such as the impact of “wool production, including on water, eutrophication, or land occupation,” and thus, “exclude[es] almost half of wool’s environmental impact.” The plaintiff also claims that the brand’s carbon footprint figures “are based on ‘the most conservative assumption for each calculation, skewing the calculations in its own favor,’ so it can make more significant environmental claims.” 

Consumers and prospective class action members are not the only parties paying attention to companies’ ESG claims. The SEC confirmed in September that it is prepared to review and investigate public companies’ ESG disclosures. “While the SEC generally keeps matters under investigation confidential,” Winston & Strawn LLP attorneys Jonathan Brightbill and Jennifer Porter note that on September 22, the SEC revealed that its staff is sending letters to dozens of public companies in order to “seek more information about how climate change might affect their financial earnings or business operations.” 

In addition to calling for information about “how climate change may physically impact companies and their operations, the SEC is asking companies to disclose how putative changes in climate change policies may impact financial performance,” per Brightbill and Porter, further solidifying the agency’s enhanced focus on climate-related financial risk amid its ongoing efforts to draft proposed regulations that would mandate enhanced – and uniform – climate and other ESG disclosures

The Impact of ESG Disclosures

Despite skepticism about the veracity of its “eco-friendly” messaging and a growing focus on companies’ sustainability claims more generally, Allbirds has, nonetheless, emphasized its efforts on the sustainability front not only in its consumer-facing ad campaigns but in various regulatory filings leading up to its impending initial public offerings, as indicated by its S-1s. This comes in furtherance of a larger trend of companies playing up their consciousness credentials, including in IPO forms. 

Just this week, Rent the Runway filed its own S-1 with the SEC, in which it touts “the importance of sustainability” generally, as consumers are “increasingly aware of the impact their choices are making on the environment and seeking more sustainable alternatives,” and the role that it plays in RTR’s model. The company states that its “platform allows brands to participate in the circular economy and provides a way for them to address the secondhand market in an aspirational way.” Meanwhile, in its August 24 S-1, eyewear brand Warby Parker – a public benefit corp. – stated, among other things, that “ESG is embedded in our core value and vision.” 

(It is worth noting that while Warby Parker made mention of the importance of ESG to its model, the company’s S-1 was not jam-packed with ESG jargon, and for another point of reference, neither was the S-1 that luxury resale marketplace 1stDibs filed in May.)

The overarching emphasis on ESG in companies’ pre-IPO regulatory filings is likely multi-purposed: it is aimed at luring top-notch talent to fuel expansion (millennial jobseekers are increasingly factoring in ethos and ESG efforts when gauging the attractiveness of a company), catering to sustainably-minded consumers, and potentially, boosting share prices. As for therelationship between ESG communications and IPO pricing and valuation, Alessandro Fenili and Carlo Raimondo took on this issue in a recent paper, in connection with which they examined the amount of ESG disclosures – or more specifically, the use of words related to the ESG topics – in the S-1 prospectuses for 783 Nasdaq or NYSE IPOs between 2012 and 2019. 

In addition to determining that S-1 forms on average have “become more prolonged and detailed,” and that the same is also happening for ESG disclosures, which may be the result of “companies seeing it as more critical to disclose more, and possibly be more detailed, on such topics,” the two University of Lugano academics found that a “significant relationship” exists between companies’ ESG communications, and their IPO pricing and evaluation. 

Specifically, Fenili and Raimondo found that there is a negative relationship between the amount of ESG disclosures – both as topics generally and in terms of the individual E, S, and G components – in S-1 forms and a stock’s underpricing, or the increase in stock price from the initial offering price to the first-day closing price. The reason for this, according to Fenili and Raimondo? “ESG disclosures usually bring positive benefits to the companies’ financial performance,” and thus, disclosing more of this information at the outset “diminishes the information asymmetry” between a company and investors. (Information asymmetry exists when one party to a transaction has more or superior information compared to another.)

The potential for benefits here is particularly relevant given that “more and more investors use ESG criteria to evaluate investment opportunities and IPOs, and also because they might want to avoid investing in companies associated with insufficient and inefficient environmental, social, and governance practices.” 

While the relationship between ESG communications and IPO pricing and valuation that Fenili and Raimondo detected may not directly explain the rise in ESG disclosures in companies’ S-1 filings, their findings, nonetheless, “contribute to the other researchers’ results that the disclosure of ESG information … leads to higher corporate financial performance, here in terms of lower underpricing and more precise firm evaluation,” which may play some role in the drafting of regulatory paperwork. The researchers’ findings should, of course, be balanced against the need for companies to be careful when it comes to ESG claims thanks to rising SEC attention and a growing number of lawsuits, something that Allbirds is well aware of.   

Allbirds filed its highly-anticipated S-1 with the U.S. Securities and Exchange Commission on Tuesday ahead of its impeding initial public offering, which will see the company list on Nasdaq under the ticker “BIRD.” In light of widening losses ($21.1 million for H1 of 2021, up from $9.5 million in H1 of 2020), the brand says that it has “spent the past five years investing in a foundation for materials and product innovation, global reach, and cross-channel distribution,” and now is looking to “ramp [up its network of stores] towards hundreds of potential locations in the future,” growth its international footprint, and “further personalize and grow its digital [channels].” Beyond that, Allbirds is angling to further broaden its footwear offerings, including in the athletics space, and expand to “a number of apparel categories that complement our footwear line.”

In a nod to the emphasis that a growing number of companies and consumers are placing on Environmental, Social, and Governance (“ESG”), San Francisco-based Allbirds – which was founded in 2015 and is best known for its lineup of eco-friendly wool trainers – drops the three-letters 91 times in its nearly 60-page S-1; it mentions “carbon” 114 times, “sustainability” 112 times, “climate” 51 times, and “green” 45 times. All the while, Allbirds sets out its “Mission, Vision, and Purpose” in the new filing, stating, “We make better things in a better way, through nature—products that people feel good in and feel good about, [and] we aim to reverse climate change through better business by empowering people to make better, more conscious decisions for themselves as well as the planet.” 

That mission (and whatever the company opts to adopt as its public benefit, which will be disclosed in an upcoming filing) is in line with Allbirds’ operation as a public benefit corporation under Delaware law, a status that enables its board to balance generating returns for shareholders and pursuing its social and environmental purpose. Much has been made in the media recently of Allbirds’ benefit corporation status and its B Corp. certification, which it has held since 2016, particularly in connection with the fact that company’s impending IPO brings with it returns-seeking public shareholders, but in reality, there is more to the equation when it comes to Allbirds ability to uphold its ESG aims as a public company than its legal status.  

A Signal to the Market

A company’s B Corp. certification and its status as a benefit corp. is more of a “signal to the market that this is the kind of company they want to be than it is any sort of legal constraint on the business,” Brian JM Quinn, a professor at Boston College Law School, who focuses on corporate law, M&A, and transaction structuring, tells TFL. In Allbirds’ case, the more significant element at play – and the “real day-to-day lever” against shareholder activism, for example – is the high value stock that the company’s founders Tim Brown and Joey Zwillinger‎ are being granted in the IPO. This dual-class structure, which is common for most founder-led IPOs, ensures that Mr. Brown and Mr. Zwillinger‎ will control all of the major decisions of the corporation, including who is on the board of directors, for as long as they want to remain in control. 

More broadly, this means that the real safeguard to protect Allbirds’ ESG-centric purpose in light of potential opposition down the road is “what the founders want, and not whether the company is a B Corp. or anything else,” Quinn says.

While benefit corporation status does make the tradeoffs that managers of publicly-traded companies generally have to consider “a bit more explicit,” it does not change the legal obligations of the company or its directors. As such, Quinn states that “if we expect businesses going forward to sacrifice profits for the environment or for social causes simply because they are public benefit corporations, then we are misunderstanding what a public benefit corporation is, [as] they are not required to do that.” And in fact, as Allbirds states in the newly-filed S-1, its board is required by law to consider the interests of stakeholders and also financial returns. 

Ultimately, Allbirds’ well-established emphasis on ESG is likely to be a compelling point for future investors, and it is clear that a lot of business – including Warby Parker, which filed its S-1 on August 24 – are of this same mindset, and are looking to maximize their value by going public as benefit corporations. However, while its status as a B Corp. very well might be “interesting,” Quinn says that it is unlikely to sway sophisticated investors, as it is “not going to determine the future of the company.” The dual-class stock structure and the intentions of the company-controlling founders will. 

Risk of “Greenwashing”

Another interesting takeaway on the ESG front comes by way of the risk factor section of the S-1, where Allbirds states that “one factor in our success is the strength of our brand; if we are unable to maintain and enhance the value and reputation of our brand and/or counter any negative publicity, we may be unable to sell our products, which would harm our business and could materially adversely affect our financial condition and results of operations.” On this point, Allbirds asserts that its reputation and the value of its brand “could be adversely affected by any number of factors or events, including if our public image is tarnished by negative publicity,” such as “any actions or any public statements or social media posts about Allbirds or our products by our customers, consumers who have not yet bought our products, our current or former employees, current or former [brand ambassadors], celebrities or other public figures … that are contrary to our values may negatively affect consumer perception of our brand.”

More than that, Allbirds aptly states in the long list of risks that “negative publicity regarding our suppliers or manufacturers could adversely affect our reputation and sales and could force us to identify and engage alternative suppliers or manufacturers.” And still yet, the company says it would be harmed in a situation in which it is “subject to claims of ‘greenwashing’ (e.g., if the carbon footprint of one or more of our products is alleged to be greater than what we claim, or if we fail or are alleged to have failed to achieve our sustainability goals).” 

The latter point is particularly striking, as it is hardly a purely hypothetical concern. Allbirds is currently in the midst of a proposed class action suit essentially accusing it of greenwashing. According to a complaint filed against Allbirds in a New York federal court earlier this summer, plaintiff Patricia Dwyer claims that despite its advertising being “replete with eco-friendly phrases,” the reality of Allbirds’ operations does not match that “eco-friendly”-focused marketing, and the footwear brand is peddling “false, deceptive and misleading” information. 

Specifically, Dwyer alleges that Allbirds’ life cycle assessment tool – which identifies the carbon footprint of each product – does not assess the environmental impact beyond the manufacturing of the shoes, themselves, such as the impact of “wool production, including on water, eutrophication, or land occupation,” and thus, “exclude[es] almost half of wool’s environmental impact.” At the same time, the plaintiff claims carbon footprint figures “are based on ‘the most conservative assumption for each calculation, skewing the calculations in its own favor,’ so it can make more significant environmental claims.” 

With this pending lawsuit – and a rising number of similar but unrelated suits stemming from companies’ often-overarching ESG marketing claims – in mind, and as a growing amount of companies are looking to go public as benefit corporations as a way to clearly demonstrate to investors what they stand for, the risk assessment sections of budding young public companies’ filings with the SEC will continue to evolve and include more sustainability-centric factors, including the potential for accusations of greenwashing.

Allbirds states in its S-1 that it is seeking to raise $100 million, a placeholder figure that will change ahead of its stock market debut. The company has not yet disclosed how many shares it would sell or their price range. 

“Investors want to better understand one of the most critical assets of a company: its people,” Securities and Exchange Commission (“SEC”) Chair Gary Gensler stated earlier this month amid an ongoing conversation about adding mandated “human capital” disclosures to the existing list of things that publicly-traded companies are required to report. In a string of tweets in mid-August, Gensler revealed that he has called on SEC staff “to propose recommendations for the Commission’s consideration on human capital disclosures,” which he stated “could include a number of metrics, such as workforce turnover, skills and development training, compensation, benefits, workforce demographics including [gender and racial] diversity, and health and safety.” 

In addition to consumers looking to get a handle on climate-related risks that companies are facing, which Gensler said in a London City Week speech in June that he is seeking staff recommendations for (namely “around governance, strategy, and risk management related to climate risk”), the SEC chair stated that a focus on mandatory uniform disclosures related to public companies’ work forces would also be beneficial in a number of ways for companies and consumers, alike. “Disclosure helps companies raise money. It helps the efficient allocation of capital across the market,” he stated. “And it helps investors place their money in the companies that fit their investing needs.”

Should the SEC adopt uniform disclosure requirements for publicly-listed companies in line with a larger focus on bringing standards for Environmental, social and corporate governance (“ESG”) reporting into the picture, it would not be the first time that the stock market regulator showed interest in this arena. Around this time last year, the SEC issued new rules under Regulation S-K that require companies to include “a description of [their] human capital resources” in their annual corporate filings “to the extent such disclosures would be material to an understanding of the registrant’s business.” 

Specifically, the current SEC rule on human capital requires public companies to provide a “description of [their] human capital resources, including the number of persons employed by the registrant, and any human capital measures or objectives that the registrant focuses on in managing the business (such as, depending on the nature of the registrant’s business and workforce, measures or objectives that address the development, attraction and retention of personnel).” The immediate result of that disclosure mandate, which went into effect in November 2020, was less than earth-shattering, Intelligize discovered. The data provider revealed in April that most companies made a “sincere effort to fulfill the scantly defined disclosure obligation.” At the same time, however, most of those entities “capitalized on the fact that the new rule does not call for specific metrics,” and thus, few actually “provided meaningful numbers about their human capital, even when they had those numbers at hand.

In a report of its own, Seyfarth Shaw LLP reviewed proxy statement human capital management disclosures by companies in the retail space and found that they primarily “focused on culture, recruitment and retention, and talent development programs,” with “many of the companies in this category including some type of numbers on employee diversity and inclusion.”

A more detailed approach to the SEC’s currently limited rule, complete with uniform reporting metrics, appears to be on the horizon based on a number of statements from Gensler over the past few months.   

Not a New Concern

The push to get companies to reveal uniform data on diversity, staff compensation and employee turnover that is otherwise largely unavailable to the public in order to enable individuals to make investment decisions – including by more easily comparing companies based on these metrics – comes as shareholders have taken to seeking such information from public giants, such as Nike and Walmart. “Ten shareholder proposals to disclose ‘EEO-1’ data revealing a company’s workforce race, ethnicity, and binary gender makeup – or to produce diversity, equity and inclusion reports similar to that data – have gone to a shareholder vote as of June 1,” Bloomberg reported early this summer, noting that that number is “likely to increase as public companies face increased pressure from investors, customers, and even their own employees.” 

Bloomberg notes that “companies with at least 100 employees, as well as some federal contractors, are already required to submit annual EEO-1 reports on the race, ethnicity, and binary gender of multiple categories of employees,” but the government and most companies keep that information confidential. 

In light of rising attention from employees, consumers, and regulators in the ESG sphere, including the role of companies’ labor forces, Tucker Ellis attorney Daniel Messeloff says that “the days when management [for publicly-traded companies] could make decisions regarding human capital completely behind closed doors, with no risk and with complete disregard for the implications of those decisions in terms of diversity, pay equity, employee safety and the like are gone.” 

Regardless of whether the SEC does, in fact, implement with more stringent human capital disclosure requirements, companies are, nonetheless, being urged to consider – sooner rather than later – how they plan to handle rising pushes for more transparency when it comes to their work forces. To date, many companies have pushed back against making the bulk of this information public on the basis that “such data could prove embarrassing, create legal risks or be exploited by labor unions,” per Reuters

All the while, Seyfarth Shaw LLP attorneys Giovanna Ferrari, Jennifer Kraft, and Ameena Majid state that while SEC’s rulemaking process will “take years to play out, the risk calculation equation for organizations is shifting,” with ESG issues playing a larger role than ever before, including in providing value for a company. “How an organization delivers value and develops trust with its stakeholders hinges, in part, on authentic action and how it reshapes the conversation with their stakeholders,” they note, asserting that in this vein, the “disclosure of more quantitative and qualitative information on what has been historically seen as the softer side of a business is [coming] front and center.”

Coty and a handful of its highly-ranking officers and directors have managed to escape the proposed class action lawsuit that was waged against it last year for allegedly running afoul of U.S. federal securities laws in connection with its P&G Specialty Beauty Business and Kylie Cosmetics acquisitions. In the complaint that she filed against the NYSE-traded beauty giant in a New York federal court in September 2020, Coty shareholder Crystal Garrett-Evans argued that the defendants engaged in “a fraudulent scheme and course of business that operated [to deceive] purchasers of Coty shares by disseminating materially false and/or misleading statements and/or concealing material adverse facts … about Coty’s business, operations, and prospects.”

Among the things that Coty allegedly misrepresented and/or failed to disclose? “Despite being no stranger to beauty brand acquisitions,” Garrett-Evans asserted that “Coty did not have adequate processes and procedures in place to assess and properly value” its 2016 and 2019 acquisitions of P&G Specialty Beauty Business and Kylie Cosmetics.” As a result, “Coty overpaid for [them].” More than that, Garrett-Evans claimed in the suit – which was filed a several months after Forbes reported that Jenner and her team had been “inflating the size and success of her [Kylie Cosmetics] business for years” – that the defendants were either “aware or severely reckless in not knowing that Coty did not have adequate processes and procedures in place to assess and properly value acquisitions.”

In January 2021, after being appointed lead plaintiff (because she had the largest damages claim), Coty shareholder Susan Nock filed an amended complaint, shifting the focus away from Coty’s acquisition of Kylie Cosmetics entirely (the amended complaint was devoid of any mention of Jenner’s brand), and centering her claims exclusively on its October 2016 purchase of the P&G Specialty Beauty Business for $12.5 billion, or what Reuters characterized at the time as “the biggest cosmetics merger in recent history.”

(Counsel for Ms. Nock at Rosen Law told TFL early this year that in opting to focus exclusively on the P&G Specialty Beauty Business deal, they were “not taking the position that the allegations over Kylie Jenner’s [brand] are not true,” but simply that the causes of action related to the P&G Beauty deal were the best for their client “at this time.”)

After the Coty/P&G deal closed, Nock argued that “Coty struggled to integrate P&G’s consumer beauty brands, and its business suffered over the next three years,” thereby, leading to a $4 billion “impairment of the value of [Coty’s] goodwill and intangible assets.” All the while, Nock asserted that Coty and the other defendants “made statements about the acquisition and integration of the P&G businesses in Coty’ s earnings calls and SEC filings that omitted material facts necessary to make those statements not misleading.”

This spring, the defendants sought to get the amended complaint tossed out in its entirety, arguing in a March 2021 motion to dismiss that plaintiffs failed to allege actionable omissions and scienter (i.e., intent or knowledge of wrongdoing), and in an opinion and order dated August 3, Judge Louis Stanton of the U.S. District Court for the Southern District of New York agreed. 

Primarily, the court sided with Coty and co. in connection with their alleged failed to disclose that the company “did not have adequate infrastructure to smoothly integrate and support the beauty business that it acquired from P&G.” Beyond that, the plaintiffs argued that Coty failed to alert shareholders that “integration issues existed, including supply chain issues, [and] that they were pervasive and continuing, and not ‘short-term,’” and that they failed to make such disclosures in a timely manner, as they “were duty bound to disclose that integration issues had already arisen before [it began discussing such issues in] November 9, 2016.”

In terms of these disclosures, the court held that Nock failed to make her case, as she did not allege a “specific omission that makes defendants ‘ statements about Coty’ s integration of the P&G businesses false or misleading.” In fact, Judge Stanton stated in his decision earlier this month that Coty “consistently updated investors with integration-related problems and the negative financial effects those problems were having on the overall business,” and as a result, Nock failed to plausibly allege any integration omissions on the part of the cosmetics giant and its management. 

Nock similarly failed to show that the defendants misled shareholders by way of its statements about improving its digital and e-commerce marketing and sales capabilities. The plaintiffs asserted that Coty “failed to disclose that [it] was not in a position to capitalize on the new brands it acquired in the P&G acquisition because … its marketing strategy was outdated and underfunded.” The problem with the plaintiffs’ claims, according to the court, is that Coty “repeatedly disclosed how much [it] spent on marketing and that [its management] thought it was adequate because digital marketing had a greater return on investment.”

In light of such consistent disclosures by Coty, including in various earnings calls in 2017 and 2018, the court determined that “Nock does not plausibly allege that defendants withheld from investors information about Coty’ s marketing program.” 

Finally, the court sided with Coty with regards to the plaintiffs’ claim that the company’s financial statements for the second and third quarter of fiscal year 2019 “were materially false because in each quarter Coty failed to take the $3 billion impairment it would eventually announce on July 1, 2019.” In addition to noting that “an allegation that defendants delayed a goodwill impairment does not, on its own, rise to the level of securities fraud,” Judge Stanton found that Nock failed to allege facts that “justify the inference that defendants delayed the second impairment with conscious recklessness or fraudulent intent.” 

Given that the plaintiffs “failure to allege plausibly any actionable omissions” on behalf of Coty and the other defendants, the court granted the company’s motion to dismiss, thereby, doing away with the amended class action complaint – and the case – in its entirety. 

The case is Crystal Garrett-Evans v. Coty, Inc., et al, 1:20-cv-07277 (SDNY).