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District Court Illustrates the Weighing of Price Impact Evidence at Class Certification Following the Supreme Court’s Goldman Decision

Erika Oliver

District Court Illustrates the Weighing of Price Impact Evidence at Class Certification Following the Supreme Court’s Goldman Decision
Orhan Cam/

On December 8, 2021, U.S. District Judge Paul A. Crotty granted (subscription required) class certification for the third time in a shareholder class action against Goldman Sachs and certain senior executives alleging violations of, inter alia, section 10(b) of the Securities Exchange Act of 1934 (Exchange Act) and Rule 10b-5 promulgated thereunder. In re Goldman Sachs Grp., Inc. Sec. Litig. (Goldman S.D.N.Y. III), 2021 WL 5826285 (S.D.N.Y. Dec. 8, 2021). Judge Crotty’s latest opinion exemplifies the “rigorous” review district courts will undertake at class certification following the Supreme Court’s latest guidance on the types of evidence courts may consider when a securities fraud defendant attempts to rebut the fraud-on-the-market presumption of reliance. Amgen Inc. v. Conn. Ret. Plans & Tr. Funds, 568 U.S. 455, 465 (2013); see Goldman Sachs Grp., Inc. v. Ark. Teacher Ret. Sys. (Goldman), 141 S. Ct. 1951 (2021).   

As one element of a section 10(b) claim, private plaintiffs must prove reliance. Halliburton Co. v. Erica P. John Fund, Inc. (Halliburton II), 573 U.S. 258, 286 & n.1 (2014). The “traditional” method of establishing reliance is by “show[ing] that [an investor] was aware of a company’s statement and engaged in a relevant transaction . . . based on that specific misrepresentation.” Id. at 286–87 (internal citation omitted). Recognizing that proof of such direct reliance would impose “an unnecessarily unrealistic evidentiary burden” on investors who trade in an impersonal market like the New York Stock Exchange, the Supreme Court in Basic Inc. v. Levinson, 485 U.S. 224 (1988), adopted the fraud-on-the-market presumption, under which reliance may be presumed based on the rationale that “in an open and developed securities market, the price of a company’s stock is determined by the available material information regarding the company and its business.” Id. at 241 (internal citation omitted). “Misleading statements will therefore defraud purchasers of stock even if the purchasers do not directly rely on the misstatements.” Id. at 241–42 (internal citation omitted). To invoke the presumption at the class certification stage (in order to satisfy Rule 23’s commonality requirement), a securities fraud plaintiff must establish that (1) the misstatement was publicly known, (2) the stock traded in an efficient market, and (3) the plaintiff purchased after the misstatement was made and before the truth was revealed. Goldman, 141 S. Ct. at 1959. (A fourth predicate of the presumption—that the statement is material—need not be proven at class certification. Goldman, 141 S. Ct. at 1959. Because materiality is also an element of a section 10(b) claim, “[a] failure of proof on the issue of materiality . . . not only precludes a plaintiff from invoking the fraud-on-the-market presumption of classwide reliance; it also establishes as a matter of law that the plaintiff cannot prevail on the merits of her Rule 10b-5 claim.” Amgen, 568 U.S. at 474. Materiality therefore has no bearing on the relevant issue at class certification, i.e., whether questions common to the class predominate over individualized questions. See id. at 469–70; see also Fed. R. Civ. P. 23(b)(3).)

But as the Supreme Court in Goldman recently reiterated, the Basic presumption is rebuttable. Goldman, 141 S. Ct. at 1958 (quoting Basic, 485 U.S. at 248). Accordingly, a defendant may overcome the presumption by “show[ing] that the misrepresentation in fact did not lead to a distortion of price.” Id. at 1962 (quoting Basic, 485 U.S. at 248) (emphasis removed). This can be done through “[a]ny showing that severs the link between the alleged misrepresentation and . . . the price received (or paid) by the plaintiff,” including “at class certification ‘by showing . . . that the particular misrepresentation at issue did not affect the stock’s market price,’” i.e., by proving a lack of price impact. Id. (quoting Basic, 485 U.S. at 248, and Halliburton II, 573 U.S. at 279) (emphasis removed).

While these concepts are not new, as the Second Circuit recognized after remand, the Court in Goldman provided (subscription required) “new ideas” to guide courts’ evaluation of price impact evidence at class certification. See Ark. Teacher Ret. Sys. v. Goldman Sachs Grp., Inc. (Goldman 2d Cir.), 11 F.4th 138, 143 (2d Cir. 2021). In particular:

  • “[D]efendants . . . bear the burden of persuasion to prove a lack of price impact by a preponderance of the evidence,” though “the burden of persuasion should rarely be outcome determinative”;
  • Expert testimony and “common sense” should inform courts’ assessment of evidence;
  • The “generic nature of a misrepresentation is relevant to price impact” because “a more-general statement will affect a security’s price less than a more-specific statement on the same question”; and
  • The inference required for the inflation-maintenance theory—“that the back-end price drop equals front-end inflation—starts to break down when there is a mismatch between the contents of the misrepresentation and the corrective disclosure,” such as “when the earlier misrepresentation is generic . . . and the later corrective disclosure is specific.” (Under the inflation-maintenance theory, “price impact is the amount of price inflation maintained by an alleged misrepresentation—in other words, the amount that the stock’s price would have fallen ‘without the false statement.’” Goldman 2d Cir., 11 F.4th at 141 (quoting Goldman, 141 S. Ct. at 1959–60).)

See Goldman, 141 S. Ct. at 1958–61.

Judge Crotty’s third order granting class certification exemplifies the detailed assessment of evidence that practitioners can expect from courts following Goldman. The shareholders in the case allege (subscription required) that the defendants violated the Exchange Act’s anti-fraud provisions by issuing false statements asserting that Goldman was acting in the best interests of its clients and had conflict management policies in place. They further allege that these statements were false because at the time of making them, Goldman allegedly structured and sold mortgage-backed securities to its clients knowing they would fail. At the same time, Goldman and a favored client are alleged to have made billions betting against these same securities. The plaintiffs allege that the defendants’ false statements and omissions artificially maintained the trading price of Goldman stock above the price at which it would have traded had the market known the truth about Goldman’s conflict management practices. This artificial inflation is alleged to have dissipated when the truth was revealed, including when the Securities and Exchange Commission (SEC) filed a complaint detailing Goldman’s alleged misconduct (the Abacus complaint).

Judge Crotty certified the class in 2015 and 2018 (subscription required). In re Goldman Sachs Grp., Inc. Sec. Litig., 2015 WL 5613150 (S.D.N.Y. Sept. 24, 2015); In re Goldman Sachs. Grp., Inc. Sec. Litig. (Goldman S.D.N.Y. II), 2018 WL 3854757 (S.D.N.Y. Aug. 14, 2018). Following remand from the Supreme Court and the Second Circuit (subscription required), Judge Crotty once again considered the defendants’ evidence that they argued proved a lack of price impact:

(i) Dr. Paul Gompers’ review of 36 news reports concerning Goldman’s conflicts that were published prior to the Abacus complaint;
(ii) Dr. Stephen Choi’s event study in which he analyzed announcements of enforcement actions against other companies and compared those companies’ stock price declines with Goldman’s following the Abacus complaint, from which he concluded that the entire decline Goldman’s stock experienced was attributable to the enforcement action and not the underlying allegations of misconduct; and
(iii) Dr. Laura Stark’s report in which she opined that statements concerning, inter alia, “management of conflicts of interest” are not “pertinent to making investment decisions.”

Goldman S.D.N.Y. III, 2021 WL 5826285, at *6–7.

Judge Crotty found that the defendants failed to carry their burden of establishing that the misstatements more likely than not did not have an impact on the price of Goldman stock. In particular, the court found the evidence of prior reports unpersuasive because those reports were accompanied by “denials or mitigating commentary” and did not include the “hard evidence” disclosed for the first time in the Abacus complaint, “including incriminatory emails and memoranda authored by Goldman employees.” Id. at *9. The court noted the fact that the SEC announced the Abacus complaint also “lent extra credibility and gravitas unequaled in the prior reports.” As to Dr. Choi, the court refused to give his study “any significant weight,” finding that his methodology was “novel, unreliable, and thoroughly outpaced by the conclusions he derived therefrom” for multiple reasons, including the use of a small sample size and factors not generally accepted in the field. Id. at *10.

Finally, the court disagreed with the defendants and Dr. Stark that the misstatements were “so generic as to diminish their power to maintain pre-existing price inflation.” Id. at *11. The court noted that several challenged statements were “quite a bit more specific in form and focus” than others, such as those specifically concerning Goldman’s conflict management policies. And as to the more generic statements, the court found that they “may reinforce misconceptions about Goldman’s business practices, and thereby serve to sustain an already-inflated stock price” when read in conjunction. The court also credited the “common-sense critique” by the plaintiffs’ expert Dr. John Finnerty of Dr. Stark’s testimony that statements about Goldman’s business practices “that reinforce what investors already think” were unlikely to influence investor behavior. Id. (emphasis removed). The court agreed with Dr. Finnerty that contrary, truthful substitutes for the challenged statements would have had an impact on investors’ subsequent decision-making.

Judge Crotty also considered and rejected the defendants’ argument that a “mismatch” between the challenged statements and corrective disclosures defeated price impact. Id. at *13–15. Although the disclosures were “somewhat more detailed and narrow in scope” than the statements, the court found that the statements and disclosures “implicate the[] same conflicts and Goldman’s infrastructure for managing them” and that any “gap in genericness” was “comfortable.” Id. at *14–15.

Following this detailed analysis, Judge Crotty held that the defendants fell short of their burden to prove a lack of price impact and granted the shareholders’ class certification motion. I expect courts will look to Judge Crotty’s comprehensive assessment as an exemplar when called upon to apply the Supreme Court’s guidance in Goldman.

Editor's note: Robbins Geller, the author's firm at time of writing, is co-lead counsel representing the class of Goldman investors.