At a time when class certification has become tougher under recent U.S. Supreme Court precedent, securities plaintiffs scored a major win when the justices ruled that materiality need not be proven at the certification stage of fraud-on-the-market claims.
Though members of the business community warn that the decision in Amgen Inc. v. Connecticut Retirement Plans and Trust Funds will place more pressure on defendants to settle claims — even those of dubious merit — attorneys representing shareholders said the court took a common sense approach based on precedent.
“The defendant essentially made up a rule,” said Vincent I. Parrett, a member in the Mt. Pleasant, S.C, office of the firm Motley Rice. “Congress required a lot of things [in the Securities Exchange Act], but they never said that for a class to be certified they had to prove materiality.”
The case was brought by a putative class of investors asserting a fraud-on-the-market claim against a biotechnology company and its officers. The plaintiffs alleged that the company violated §10(b) and Rule 10b-5 of the act by misleading investors about safety concerns expressed by the Food and Drug Administration about two of the company’s drugs to artificially inflate the market price of its stock.
When the FDA’s concerns became public, stock prices fell and shareholders suffered, the plaintiffs claimed.
The company opposed certification of the plaintiff’s class under Rule 23, arguing that plaintiffs failed to show that the alleged misstatements were material or that the plaintiffs relied upon them in making investment decisions. As such, Amgen argued, the Rule 23(b)(3) requirement that “questions of law or fact common to class members predominate over any questions affecting only individual members” was not met.
But the district court held that materiality is not a prerequisite to certification of a securities fraud class action under §10(b) and Rule 10b-5, and the 9th U.S. Circuit Court of Appeals affirmed.
In a 6-3 ruling, the Supreme Court also affirmed.
A matter of materiality
Although the court has held that class certification inquiries may at times overlap with the elements of the underlying claims, “Rule 23 grants courts no license to engage in free-ranging merits inquiries at the certification stage,” U.S. Supreme Court Justice Ruth Bader Ginsburg wrote for the majority in the Feb. 27 opinion.
“Merits questions may be considered to the extent — but only to the extent — that they are relevant to determining whether the Rule 23 prerequisites for class certification are satisfied,” Ginsburg wrote. Here, “the pivotal inquiry is whether proof of materiality is needed to ensure that the questions of law or fact common to the class will ‘predominate over any questions affecting only individual members’ as the litigation progresses. … [T]he answer to this question is clearly ‘no.’”
Parrett, whose practice includes representing shareholders in securities class action litigation, said a ruling to the contrary “would have made it very hard for plaintiffs.”
Although materiality still must be proven at the merits stage, most of that proof is uncovered during discovery.
“Defendants are trying to make us prove our case up front before discovery is complete,” Parrett said. “We are simply saying: Look, we all agree that we are going to have to prove materiality, and we want to comply with the requirements of Rule 23, but we want discovery.”
The case drew the interest and amicus briefs of several business and legal groups, which urged the court to find a materiality requirement at the certification stage. Otherwise, the groups argued, it would be impossible to determine whether plaintiffs assert a claim that can be satisfied on a classwide basis under Rule 23.
“A class action is appropriate only when a large group of individuals has claims for which the operative facts and law are nearly identical for each plaintiff,” said Cory Andrews, senior legal counsel for the Washington Legal Foundation and author of the group’s amicus brief filed in support of Amgen.
WLF, along with other groups including the U.S. Chamber of Commerce, urged the Court to accept Amgen’s argument that materiality must be proven before certification. Absent a showing that the alleged misrepresentation was material to the change in stock price that occurred, each putative class member would have to prove actual reliance on the misrepresentation — something that cannot be done on a classwide basis.
Andrews said that in some cases proceeding as a class makes sense.
“But where, as here, there can be no presumption that any shareholder relied on the alleged misrepresentation no legitimate basis exists for certifying a plaintiff class,” Andrews said.
Securities cases buck trend
The ruling ends the circuit split on the issue of materiality at the class certification stage, something that has caused uneven outcomes and led to uncertainty among litigators.
But it also seems to contrast with other recent Supreme Court rulings that have tightened class certification requirements. Amgen and the amici supporting it cited cases such as Wal-Mart Stores Inc. v. Dukes, which denied certification to a class of job bias plaintiffs citing a lack of commonality. In that case the justices stressed the “rigorous” standard set by Rule 23.
But the court has taken a notably different approach in cases involving securities fraud claims. Two years ago in Erica P. John Fund Inc. v. Halliburton Co., the court held that securities fraud plaintiffs need not prove loss causation in order to obtain class certification.
“Loss causation has no logical connection to the facts necessary to establish the efficient market predicate to the fraud-on-the-market theory,” wrote Chief Justice John Roberts Jr. for a unanimous court in that case.
Parrett theorized that the court’s seemingly different approach to securities cases stems in part from the zealousness of securities defense attorneys.
“They are excellent lawyers. They are very good,” Parrett said. “But they are being aggressive, and being creative and doing whatever they can to make sure their clients don’t lose,” such as fighting class certification. “They are just doing their jobs, but I think they are pushing it a little too far.”