Crystal & Company: Better Know the Risks of an IPO
February 26, 2014
By Brian E. Dunphy, Managing Director, Management & Professional Risk Group, Crystal & Company
& Timothy W. Crowley, Director, Management & Professional Risk Group, Crystal & Company
By most metrics, 2013 was the most successful year for the domestic IPO marketplace since the turn of the century. Going forward, as IPOs return to being a frequent and viable avenue to raise capital, companies will need to analyze a number of criteria to determine if a public offering of securities is indeed a suitable vehicle for their needs.
Once a company elects to undergo the IPO process, new and material risk exposures arise. The chance of being named as a defendant in a securities class action claim is more common within three years of the initial offering date. Class actions typically settle in the eight-figure range exclusive of costly legal fees. Directors and officers liability (D&O) insurance policies are the most common vehicle to transfer executive liability risk. The proper engagement of a specialized management liability insurance broker is critical to ensure that a comprehensive risk transfer product is in place to respond to the additional exposures associated with an IPO.
Most securities claims are filed within three years of the IPO and there is a significantly higher probability that a class action lawsuit will arise when an IPO is involved.
Roughly 20% of all securities class-action claim activity involves an IPO.
Proper negotiation from the private form to a public form is a crucial component of the IPO risk management process. Most important is the need to fully address and insure the risk from litigation brought against the directors and officers of public companies arising from alleged wrongful acts relating to the Securities Exchange Act of 1933 (the “1933 Act”) and the Securities Exchange Act of 1934 (the “1934 Act”).
Under the 1933 Act, issues like adequate financial and operational disclosures and registration matters are subject to scrutiny. Once a company is publicly traded, the 1934 Act, which includes a number of statutes imposing liabilities on directors and officers, is applicable. The most prominent among these statues is the 1934 Act’s Rule 10(b)-5, which is intended as a “catch all” provision for any alleged deception or fraud, including accusations of insider trading, corporate misstatements and corporate mismanagement, which are generally included as alleged violations of this particular provision.
Additionally, the Dodd-Frank Wall Street Reform and Consumer Protection Act has given rise to increased scrutiny on all publicly traded companies. As a result, directors and officers of publicly traded businesses face greater exposure to risk.