As many observers had expected, the U.S. Supreme Court has reversed the Fifth Circuit’s opinion in the Halliburton case. In a brief June 6, 2011 opinion from Chief Justice John Roberts, writing for a unanimous court, the Court held that securities class action lawsuit plaintiffs do not need to prove loss causation in order to obtain class certification. A copy of the opinion can be found here.
As detailed here, in 2002, shareholders had filed a securities class action lawsuit against Halliburton and certain of its directors and officers, alleging that the company has misrepresented certain aspects of its financial condition, including the company’s exposure to potential liability from asbestos litigation and the company’s expected revenue from certain construction contracts. The plaintiffs alleged that Halliburton’s share price declined following a corrective disclosure.
The plaintiffs purported to represent a class of Halliburton investors and filed a motion for class certification. The district court found that the case could proceed as a class action, except for the fact that the plaintiffs had not satisfied the Fifth Circuit requirement that securities fraud plaintiffs proved “loss causation” in order to obtain class certification .The district court concluded that the plaintiff “had failed to establish loss causation with respect to the any of its claims” and therefore denied the motion for class certification.
The Fifth Circuit affirmed the denial of the motion for class certification, holding that in order to obtain class certification a securities plaintiff is required “to prove loss causation, i.e.., that the corrected truth of the corrected falsehoods actually caused the stock price to fall and resulted in losses.” Owing to the conflict among the circuit courts on the question whether loss causation must be proved at the class certification stage, the U.S. Supreme Court granted the plaintiff’s petition for writ of certiorari.
The June 6 Opinion
Chief Justice Roberts’s June 6 opinion reversed the Fifth Circuit, and expressly rejected the Fifth Circuit’s interpretation of the Supreme Court’s prior opinion in Basic v. Levinon and Basic’s holding that to establish reliance using the fraud on the market presumption. The Fifth Circuit had held that in order to invoke the rebuttable presumption of reliance under the fraud on the market theory, the plaintiff had to prove that the decline in Halliburton’s stock price had occurred because of the corrective disclosure and that the decline could not be explained by other factors.
In his opinion for the Court, Chief Justice Roberts said that this “requirement” is “not justified by Basic or its logic,” adding
To begin, we have never before mentioned loss causation as a precondition for invoking Basic’s rebuttable presumption of reliance. The term “loss causation” does not even appear in our Basic opinion. And for good reason: Loss causation addresses a matter different from whether an investor relied on a misrepresentation, presumptively or otherwise, when buying or selling a stock.
Roberts went on to draw a distinction between “transaction causation” (that is, whether the plaintiff relied on the alleged misrepresentation in deciding whether or not to engage in the transaction) and “loss causation” which “by contrast” required a plaintiff to show “that a misrepresentation that affected the integrity of the market price also cause a subsequent economic loss.”
Roberts said to require proof of loss causation in order to invoke the rebuttable presumption of reliance under the fraud-on-the market theory
contravenes Basic’s fundamental premise – that an investor presumptively relies on a misrepresentation so long as it was reflected in the market price at the time of his transaction. The fact that a subsequent loss may have been caused by factors other than the revelation of a misrepresentation has nothing to do with whether an investor relied on the misrepresentation in the first place, either directly or presumptively through the fraud-on-the market theory. Loss causation has no logical connection to the facts necessary to establish the efficient market predicate to the fraud-on-the-market theory.
In many ways this decision is not a surprise. Indeed, as Justice Roberts notes in his opinion, Halliburton’s counsel was forced to concede that the Fifth Circuit had erred in trying to require loss causation at the class certification stage. (Defense counsel tried to salvage things by trying to argue that in using the phrase “loss causation” the Fifth Circuit had really meant “price impact” – but Justice Roberts was having none of that. The Fifth Circuit had said “loss causation” and that was what Justice Roberts interpreted them to have meant.)
On the other hand, while the outcome itself may come as little surprise, it is nonetheless less than expected that this particular court would come out so clearly in a ruling that favors the plaintiffs. This Court has not exactly been plaintiff-friendly over the years. To be sure, except in the Fifth Circuit, this ruling really does not change anything, as the courts in the other circuits had not been requiring proof of loss causation at the class certification stage. Nevertheless, if this case had come out the other way and the Supreme Court had found that proof of loss causation is required at the class certification stage, that would have represented a significant hurdle for plaintiffs at a critical preliminary stage. So, from the plaintiffs’ perspective, the outcome at the Supreme Court is more of a potential serious problem avoided than a significant new advantage gained.
The brevity of the Court’s opinion may disappoint some observers. There has been some hope that the U.S. Supreme Court would provide further elaboration on what elements plaintiffs must prove in order to trigger the presumption of reliance at the class certification stage, and perhaps provide further guidance on the plaintiffs’ burdens of production and persuasion. There may be some takeaways on these topics from the comments in the opinion about Basic and the fraud on the market presumption. But a detailed analysis of these issues will have to await another day.