Seeking to satisfy Civil Rule 23’s class action requirements, the plaintiffs asserted a fraud-on-the-market presumption to establish commonality among the class members for their reliance on the public statements. The district court declined Amgen’s attempt to rebut that presumption at the class certification stage, ruling that the proposed rebuttal evidence must await trial on the merits. Both sides of the case enjoyed support from divided circuit court opinions, so an appeal followed to the Ninth Circuit to break the tie.
The Underlying Class Action and Securities Fraud Framework
The central issue arises out of putative class action securities fraud plaintiffs’ need to establish that their reliance is a common issue within the class. Plaintiffs will often rely on the fraud-on-the-market theory based on the hypothesis that a stock’s price trading in an efficient market reflects all publicly available information.
Fraud-on-the-market is a presumption that there is a causal link between a defendant’s representation, reflected in the market price, and each class member’s decision to purchase the stock. “The whole idea of the fraud-on-the-market presumption is that it doesn’t make sense for hundreds or thousands or tens of thousands of people to each have to try to prove their individual reliance, when they all relied on exactly the same thing,” explains Jill S. Abrams, New York City, cochair of the Securities Law Subcommittee of the ABA Section of Litigation’s Class Actions & Derivative Suits Committee. It is a rebuttable presumption, however, permitting defendants to show truthful information in the marketplace or that the plaintiff(s) purchased without relying on the integrity of the market.
In a class action context, the fraud-on-the-market presumption addresses the requirements of Fed. R. Civ. P. 23(b)(3) by ensuring that issues common to the class predominate prior to class certification. For many years, “predominance of common issues, which is what the fraud-on-the-market presumption is focusing on,” states Abrams, “wasn’t the battleground it is today.” But then the U.S. Supreme Court inserted a brief footnote into Basic Inc. v. Levinson. That footnote states:
[T]o invoke the presumption, a plaintiff must allege and prove: (1) that the defendant made public misrepresentations; (2) that the misrepresentations were material; (3) that the shares were traded on an efficient market; (4) that the misrepresentations would induce a reasonable, relying investor to misjudge the value of the shares; and (5) that the plaintiff traded the shares between the time the misrepresentations were made and the time the truth was revealed… Given today's decision regarding the definition of materiality as to preliminary merger discussions, elements (2) and (4) may collapse into one. (emphasis added)
“For a long time, people thought Basic said there was no inquiry into the merits. When you saw a motion for class certification, it was extremely bare bones—they were short, relied completely on the allegations in the complaint, and just laid out the elements of Rule 23,” explains Abrams.
The Circuit Courts Split on Proof versus Plausible Allegations
After Basic, the First, Second and Fifth Circuits held that proof of materiality is necessary to permit a proposed class to be certified and proceed to trial. Meanwhile, the Third, Seventh, and now the Ninth Circuit conclude that the plaintiffs only need to allege materiality to obtain class certification, leaving actual proof to be addressed at trial.
“The split in the circuits is caused by a difference of opinion concerning the language in the Basic v. Levinson footnote,” explains Ghillaine A. Reid, New York City, cochair of the Section of Litigation’s Securities Litigation Committee. “Footnote 27 of the opinion states that a presumption of reliance requires a plaintiff to allege and prove that the misrepresentations were material. Courts which require proof of materiality as a precondition of class certification rely on this language. Courts which require only a plausible allegation of materiality—such as the Ninth Circuit in Amgen—interpret the footnote as stating that materiality is essential [to establish liability], but proof of it is not required for class certification.”
“In my view, implicit in the fraud-on-the-market theory is the notion that both material and immaterial information are manifested in the stock price,” remarks Reid. “Class certification based on the fraud-on-the-market theory, therefore, should not—and need not—require proof of materiality.”
The Supreme Court May Have Already Resolved the Discord
The Amgen defendants requested a stay in the Ninth Circuit pending their filing for a writ of certiorari. This could be a strong candidate for review “particularly because of the different interpretations that circuit courts have articulated regarding the respective evidentiary burdens on plaintiffs and defendants on class certification motions,” suggests Steven Kaufhold, San Francisco, cochair of the Securities Subcommittee of the Section’s Class Action & Derivative Suits Committee. Reid argues the opposite: “While the Supreme Court could revisit the language in the Basic footnote for purposes of deciding whether proof of materiality is a prerequisite for class certification, I believe it is unlikely that the Court will do so.”
The Supreme Court’s 2011 decision, Erica P. John Fund v. Halliburton, provides insight into how the high court might resolve the circuit split. In Halliburton, the Court held that a securities plaintiff need only prove loss causation at trial, not as a precondition to certification. Abrams argues that “in the wake of Halliburton, for the U.S. Supreme Court to be consistent, it would have to decide that you don’t have to prove materiality on class certification, because just like causation, it is an element of 10b-5, and the elements are to be proven at trial.” Abrams therefore believes the defendants’ request for certiorari is “taking a big risk.”
Swati S. Desai is an associate editor for Litigation News.