ATTORNEY: MATTHEW L. TUCCILLO
Pomerantz Monitor, March/Apri 2013
In order for a court to certify a case as a class action, it must usually determine that common questions “predominate” over questions that affect only individual class members. In securities fraud actions, plaintiffs must show, among other things, that investor “reliance” on defendants’ misrepresentations can be established on a class-wide basis. Otherwise, individual questions of reliance will “predominate”.
A quarter century ago, in the landmark decision Basic v. Levinson, the Supreme Court adopted the so-called “fraud on the market” theory to address this problem. According to this theory, if the subject company’s stock trades on an “efficient market” (e.g. the NYSE), a court can presume that the market price of that company’s stock reflects all available information, including the facts misrepresented by the defendants. All investors presumably relied on the market price in buying their shares, reliance on the fraudulent statements can be established, indirectly, on a class-wide basis. The Basic decision held that the fraud on the market presumption was rebuttable by the defendant, but until recently that was interpreted to mean rebuttable at trial, not at the class certification stage.
As the stakes have risen dramatically in securities fraud litigation, big corporations have been trying to find ways to make it more difficult for courts to certify class actions, since their settlement leverage drops precipitously once a class is certified. In the past few years they have been arguing that classes should not be certified unless plaintiffs can actually prove, and not merely allege, at the class certification stage that common questions will be established in their favor. For example, some defendants have argued that plaintiffs should have to prove, at a hearing, that the fraud actually caused investor losses on a class wide basis (“loss causation”). Such arguments would turn a class certification procedure into a “mini trial” on issues relating to the merits of the case, which would have to be re-litigated at trial. Last year, in Halliburton, the Supreme Court rejected the argument that loss causation should have to be proven at the class certification stage.
Now, in Amgen, Inc. v. Connecticut Retirement Plans and Trust Funds, the Supreme Court has rejected attempts to force a mini-trial on the fraud on the market contention at the class certification stage. Specifically, Amgen had argued that plaintiff should be required to prove, and not merely allege, that the fraudulent misrepresentations were material enough to affect the market price of its stock, and that it should be given a chance to rebut the basic presumption that the market price actually was affected by the fraud. If the fraud did not affect the market price, Amgen argued, plaintiff could never establish on a class-wide basis that the entire class relied on the fraudulent representations in buying their shares. Individual issues would predominate, so the argument went, making class certification inappropriate.
In a victory for investors, the Supreme Court rejected Amgen’s arguments, holding that all a securities fraud plaintiff has to do -- at the class certification stage -- is plausibly allege facts showing that the fraud was material; and that defendants cannot attempt to rebut the fraud-on-the-market presumption at that stage in the case.
Writing for a 6-3 majority that included Chief Justice Roberts and Justices Breyer, Alito, Kagan, and Sotomayor, Justice Ginsberg’s opinion holds that proof of materiality is not a class certification prerequisite. The question of whether fraudulent statements are material is provable (or not) through objective evidence common to all investors. Thus, even if defendants prevail on this issue at trial, they will do so in a manner that is common to the entire class, and as such, materiality is a common question to all class members. Moreover, if at trial the plaintiff failed to prove the common question of materiality, the result would not be a predominance of individual questions, but rather, the end of the litigation, because materiality is an essential element of each class member’s securities fraud claim. In that sense, the entire class lives or dies based on the common resolution of the question.
In so holding, the majority rejected Amgen’s argument that materiality should be treated like certain other fraud on the market prerequisites (e.g., that the misrepresentations were public, that the market was efficient, and that the transaction at issue occurred between the misrepresentation and the time the truth was revealed), which do have to be proven at the class certification stage. The majority found these other issues relate solely to class certification and are not ultimate merits determinations for the entire class. It also rejected Amgen’s argument that barriers should be raised to class certification because the financial pressure of a certified class forces the settlement of even weak claims, finding it significant that Congress had addressed the settlement pressures of securities class actions through means other than requiring proof of materiality at the class certification stage. In so doing, Congress had rejected calls to undo the fraud on the market presumption of reliance. Finally, the majority noted that, rather than conserving judicial resources, Amgen’s position would require a time- and resource-intensive mini-trial on materiality at the class certification stage, which is not contemplated by the federal rules and which, if the class were to be certified, might then have to be replicated in full at trial.
In separate dissents, Justice Thomas and Scalia expressed hostility toward certification of classes where the materiality of the alleged statements had not been established. Thomas and, in a separate concurrence, Alito also questioned the continued validity of the fraud-on-the-market theory, in light of more recent research questioning its premises. These remarks may only invite additional challenges to the fraud-on-the-market presumption itself in years to come.