In Amgen Inc. v. Connecticut Retirement Plans and Trust Funds, Supreme Court holds that proof of materiality not required to certify securities fraud class


The fraud-on-the-market theory, first accepted by the U.S. Supreme Court in Basic Inc. v. Levinson, 485 U. S. 224 (1988), and recently endorsed in Erica P. John Fund, Inc. v. Halliburton Co., 563 U. S. ___ (2011), presumes that the price of a security traded in an efficient market will reflect all publicly available information about a company.  With that presumption, a buyer of the security may be presumed to have relied on that information in purchasing the security, including misrepresentations in public communications.  In Amgen, Inc. v. Connecticut Retirement Plans and Trust Funds (Feb. 27, 2013), the U.S. Supreme Court took up the question of whether, at the certification stage, materiality must be proven.  Affirming the Ninth Circuit, the majority concluded that materiality need not be proven at the certification stage.

Summarizing the holding of the Court, Justice Ginsburg wrote:

While Connecticut Retirement certainly must prove materiality to prevail on the merits, we hold that such proof is not a prerequisite to class certification. Rule 23(b)(3) requires a showing that questions common to the class predominate, not that those questions will be an­swered, on the merits, in favor of the class. Because mate­riality is judged according to an objective standard, the materiality of Amgen’s alleged misrepresentations and omissions is a question common to all members of the class Connecticut Retirement would represent. The al­leged misrepresentations and omissions, whether material or immaterial, would be so equally for all investors com­posing the class. As vital, the plaintiff class’s inability to prove materiality would not result in individual questions predominating. Instead, a failure of proof on the issue of materiality would end the case, given that materiality is an essential element of the class members’ securities fraud claims. As to materiality, therefore, the class is entirely cohesive: It will prevail or fail in unison. In no event will the individual circumstances of particular class members bear on the inquiry.

Essentially, Amgen, also the dissenters from today’s decision, would have us put the cart before the horse. To gain certification under Rule 23(b)(3), Amgen and the dissenters urge, Connecticut Retirement must first establish that it will win the fray. But the office of a Rule 23(b)(3) certification ruling is not to adjudicate the case; rather, it is to select the “metho[d]” best suited to adjudi­cation of the controversy “fairly and efficiently.”

Slip op., at 2-3.  With the heavy tide of anti-class decisions emanating from the U.S. Supreme Court of late, this is an important reminder that certification analysis focuses on common questions, not proof.

Another day, another liberal Ninth Circuit decision?

I’ve long heard the opinion that the Ninth Circuit is the most “liberal” of the Circuits. The basis for this theory appears to be rooted in a cursory analysis of reversal rates by the Supreme Court in different years. I’ve spent very little of my precious free time examining this contention (okay, none). But I’ve heard the assertion with such regularity that I’ve made the mistake of presuming that it might be accurate. However, analyses by individuals that are recognized as experts suggests that this conventional wisdom is simply wrong. For example, Erwin Chemerinsky, in The Myth Of The Liberal Ninth Circuit (2004), finds that the Ninth Circuit is reversed at the mean rate for all Circuits and has a roughly equal distribution of Justices viewed as liberal or conservative. Andreas Broscheid reaches a similar conclusion in his article entitled Is The 9th Circuit More Liberal Than Other Circuits? (2008). Looking at how class action appeal have fared in recent years suggests that the Ninth Circuit is not the plaintiff’s playground that conventional wisdom describes.

In Desai, et al. v. Deutsche Bank Securities Limited, et al. (July 29, 2009), the Ninth Circuit affirmed a trial court’s denial of class certification in a securities action filed by Hector’s father. In an unusual twist, the unanimous panel issued three opinions to reach the unanimous result, differing only as to the ramifications of the correct standard of review.

The plaintiffs alleged an interesting scheme to manipulate stock prices and avoid the issue of rapid price drops when large blocks of shares are sold:

A common way to manipulate the market in a security is to cause its price to increase by creating the illusion of more investor interest than really exists. The manipulator acquires shares of the security before the price increase, then slowly sells them off and reaps the profit. The problem with this model, however, is that as the manipulator sells off his shares he depresses the price, which lessens his profit. Investors here allege a scheme that varied the theme in a way designed to cure this problem. It involved a commercial arrangement known as a securities loan.

Slip op., at 9904. The details of the scheme are both ingenious and appalling:

Officers of GENI first issued themselves unregistered shares of the company. Such shares may not be publicly traded, but the GENI officers loaned them to a broker-dealer called Native Nations Securities, Inc., receiving cash collateral in return. Richard Evangelista, an employee of Native Nations and apparently a longtime associate of Breedon, falsified the records of his employer to make it look like the GENI shares had come from other broker-dealers. Native Nations then lent the shares (cash collateral coming back) to Deutsche Bank. Breedon was in charge of this account, which continued to absorb unregistered shares of GENI stock. Eventually, Breedon and his associates at GENI developed a chain of broker-dealers that came between Native Nations and Deutsche Bank in order to increase the amount of capital for the scheme and to insulate Deutsche Bank from any fallout should the scheme collapse.

The GENI officers used the cash collateral to day-trade in GENI’s publicly traded shares. This created the appearance of investor demand. That appearance inflated the stock price, which in turn required the borrowers of GENI stock, from Native Nations to Deutsche Bank, to provide more cash collateral to feed the cycle. It also increased the rebate payments to the borrowers, from Native Nations down the line to Deutsche Bank. It seems Deutsche Bank gained the most from the rebate payments, however, because the intermediary brokerdealers in the chain paid out a percentage of the rebates they received to the next party in the chain. Deutsche Bank, being the last in line, did not have to do that.

To ensure that GENI’s price kept climbing, Breedon and his associates at GENI allegedly paid off two stock analysts to recommend GENI stock in order to drum up demand. One of the analysts was Courtney Smith, a one-time defendant in this litigation; the Longs claim that they purchased GENI stock in February of 2000 on the basis of Smith’s bogus recommendations. The secret deal between GENI and Smith later came to light in the news media.

Slip op., at 9905-6, footnote omitted. Much financial anguish then ensued, and that’s just the “simplified” version of the scheme. Evil genius never dies.

In any event, the district court denied a motion for class certification, focusing on reliance issues:

The California district court concluded that individual questions of law or fact predominated over common ones, which sufficed to take the putative class outside of Rule 23(b)(3). The district court focused on the element of reliance, which is required to prove a violation of § 10(b) of the 1934 Act. The district court’s denial of class certification depended on its belief that Investors would have to prove reliance on an individual basis because they could not prove it class-wide. See Basic Inc. v. Levinson, 485 U.S. 224, 242 (1988) (recognizing that such individualized proof of reliance effectively makes it impossible to proceed as a class, because “individual issues then would . . . overwhelm[ ] the common ones”).

Slip op., at 9910, footnotes omitted. To deal with the issue of class-wide reliance, plaintiffs generally have two avenues available to them:

Reliance can be presumed in two situations. In omission cases, courts can presume reliance when the information withheld is material pursuant to Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-54 (1972). Reliance can also be presumed in certain circumstances under the so-called “fraud on the market theory.” Basic, 485 U.S. at 241-49. Precisely to which cases this presumption applies—that is, to misrepresentation, to omission, to manipulation cases, or to some combination of the three—is an issue the parties contest on appeal. The two presumptions are conceptually distinct.

Slip op., at 9914. The Court then examined the two reliance presumption avenues. First, it concluded that the omission-based theory was unavailable:

Investors allege that this is an omissions case because “the case as a whole is . . . overwhelmingly non-statement based— in other words, omission-based.” In other words, they seem to assume that as long as liability is not based on misrepresentations, then it must be based on omissions. Relatedly, they argue that because Deutsche Bank and the other former defendants “failed to disclose their active manipulation of GENI stock,” they have made an actionable omission. This approach would collapse manipulative conduct claims and omission claims.

Slip op., at 9916. The Court then declined to create a new “integrity of the market” reliance presumption where the plaintiffs conceded that the market for the securities was not efficient:

We are chary. No authority required the district court to adopt Investors’ integrity of the market presumption. Indeed, the Supreme Court has adopted a rather restrictive view of private suits under § 10(b), noting that, “[t]hough it remains the law, the § 10(b) private right should not be extended beyond its present boundaries.” Stoneridge, 128 S. Ct. at 773. In Stoneridge, the Court listed the Affiliated Ute presumption and the fraud on the market presumption as the two reliance presumptions it has recognized. Id. at 769. After concluding that “[n]either presumption appli[ed],” it did not inquire into any other presumption that seemed appropriate, but simply analyzed whether the plaintiffs could prove reliance directly. Id. These passages may not forbid the recognition of new presumptions, but they do illustrate that the district court did not have to recognize this one.

Slip op., at 9920.  So no class action and no new theories of reliance presumptions in the somewhat arcane securities class action context.  And no plaintiffs bailed out by an activist, liberal Court.