Digital Brand Media and Marketing Group Inc (DBMM): DBMM better be careful putting out all t... (2024)

A recent proposed rule and several enforcement actions indicate the Securities and Exchange Commission’s growing appetite for regulating AI-specific disclosures, and shareholders’ interest in claims. In this environment, it’s imperative that companies remain cognizant of their public statements on AI.

Last year, the SEC proposed a rule that would govern AI use by broker dealers and investment advisers. Although the rule isn’t final, the agency has pursued several AI-related enforcement actions with its authority to regulate false or misleading public statements.

The enforcement actions have been limited to companies whose public statements on AI usage were at issue. They allegedly claimed to use a specific AI model to elevate their customer offerings but couldn’t provide any evidence of their AI implementation when questioned by the SEC.

But this doesn’t mean a company’s ability to prove it implemented AI technology in some form will be enough to avoid scrutiny or liability. Investor plaintiffs targeting companies’ AI disclosures represent a new frontier of potential risk for companies and their directors and officers.

The lawsuits follow on the heels of enormous investments by public companies in their AI programs. Companies are eager to explore how this new wave of technology can enhance their business processes and customer offerings. Those that resist AI risk becoming obsolete or overtaken.

Some players may feel pressured to become leaders in this space to avoid losing both profit and market share to competitors that are diving into AI. Mega tech firms and companies in a variety of industries are set to devote around $1 trillion on capital expenditures in the coming years to support AI programming.

Given the immense financial commitment to developing AI functionality and tools, public companies’ disclosures necessarily include descriptions of plans to develop and implement AI technologies, as well as predictions and assessments of how AI will serve their bottom line.

Many public companies now find themselves addressing these complex technologies and regularly fielding questions on earnings calls and from investors about the impacts of AI on their business.

While in many cases these disclosures are infused with optimism about AI’s value to businesses seeking related revenue gains, experts vary widely in their views on the long-term utility and cost-effectiveness of the technology. If companies can tie use of AI to direct business benefits, that may be reason enough.

But some argue that companies should be wary of increased AI expenditures because they believe only a small percentage of tasks are appropriate to delegate to AI technologies. They say it won’t be cost-effective to automate the vast majority of AI-exposed tasks, and that AI can’t handle the required complexity of the tasks needed for an adequate return on the expected $1 trillion investment.

Other experts express concern that shortages of key inputs for AI technologies to operate—including chips and electricity—could impose a ceiling on AI utility that companies may not anticipate.

Shareholder plaintiffs are capitalizing on the novelty by increasingly initiating litigation based on a company’s disclosures on the effects of AI on business as well as AI applications. At least 11 securities lawsuits alleging AI-related misstatements and/or omissions have been filed so far in 2024.

While some shareholder actions mirror the SEC’s enforcement actions—alleging the defendants aren’t actually implementing any AI at all in their business processes or products—others contain broader and more varied theories of recovery, including:

Defendants allegedly knew their technology was faulty or ineffective at conducting the task it was designed for and failed to disclose this information to investors
Defendants allegedly knew their customers were confused by or found limited utility in their AI offerings, but failed to disclose this information to investors
Defendants allegedly overstated the percentage of their revenue that was attributable to AI-enhanced offerings even though the majority of their income and customer interest was from nontechnical streams, not AI-infused services
These claims are being brought against a wide variety of market participants. Some companies are expressly in the business of AI, either manufacturing the underlying components used in the technologies or claiming to provide custom AI solutions to their clients. Others are more tangentially connected to the technology, claiming to implement AI in their marketing efforts or to incorporate it into their consumer products.

While a handful of the plaintiffs focus almost exclusively on AI-related allegations, others pull in additional public statements they claim are false or misleading. The variety of these actions underscores the importance of companies across all industries remaining mindful of their AI-related public statements, even if the company doesn’t consider itself a tech industry player.

In light of the AI shareholder lawsuit trend, management and boards can focus on next steps with these key questions:

How and where is AI being used?
Who in management is focused on AI?
How is AI risk being assessed?
How is AI regulation and risk being identified and addressed?
Do we have written policies around the use of AI?
Companies should consider whether the board’s audit or risk committees should be tasked with understanding the company’s AI use and considering associated disclosures in addition to any privacy and confidentiality concerns that arise. Companies can identify their AI experts to properly vet any technical proposed disclosures on AI to confirm the disclosures are accurate.

The key is to make sure AI disclosures and company claims about AI prospects have a reasonable basis that’s adequately disclosed.

Companies should also aim to create and maintain appropriate risk disclosures. When disclosing material risks related to AI, risk factors become more meaningful when they are tailored to the company and the industry, not merely boilerplate.

Companies will need to carefully navigate the two-faces of AI—is it the solution or the problem?

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information
Elizabeth Gingold Clark and Courtney Quirós are partners in Alston & Bird’s securities litigation group.

Carissa Lavin is an associate in Alston & Bird’s securities litigation group.

Digital Brand Media and Marketing Group Inc (DBMM): DBMM better be careful putting out all t... (2024)

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