The D & O Diary : Directors and Officers Liability and Insurance : The D & O Diary : Kevin LaCroix : Securities Laws, Corporate Fraud, D & O Litigation

I am pleased to publish below a guest post written by Robert F. Carangelo, Paul A. Ferrillo, David J. Schwartz, and Matthew D. Altemeier of the Weil, Gotshal & Manges law firm and the authors of The 10b-5 Guide, the most recent edition of which can be found here.. The guest post reflects the authors’ report and analysis of the recent oral argument at the U.S. Supreme Court in the Amgen case. Background regarding the Amgen case can be found here.

I would like to thank the authors for their  willingness to publish their article on this site. I welcome guest posts from responsible commentators on topics of interest to readers of this blog. Any readers who are interested in publishing a guest post on this site are encourage to contact me directly. Here is the authors’ guest post:

On November 5, 2012, the United States Supreme Court heard oral argument in Amgen Inc. v. Connecticut Retirement Plans & Trust Funds (No. 11-1085) (“Amgen”).  In Amgen, Plaintiff/Respondent Connecticut Retirement Plans and Trust Funds (“Connecticut Retirement”) brought a putative class action under the Exchange Act of 1934, alleging that Defendant/Petitioner Amgen and several of its directors and officers misstated and failed to disclose safety information concerning two of its drugs. Amgen contends that it did not mislead investors and that the information it allegedly concealed was widely known.

Background of Amgen and Path to the Supreme Court

The issue in Amgen is the predominance requirement of Federal Rule of Civil Procedure (“Rule”) 23(b)(3), which states that a court may not certify a class for trial without determining that “questions of law or fact common to class members predominate over any questions affecting only individual members.” Because of the near-impossibility of establishing commonality of direct reliance on alleged misstatements in securities fraud litigations, plaintiffs typically rely on a rebuttable presumption of common indirect reliance on the integrity of the market price for the securities at issue. The Supreme Court first recognized this presumption in Basic Inc. v. Levinson, 485 U.S. 224, 241-47 (1988), relying in part on the “fraud-on-the-market” (“FOTM”) theory. The FOTM theory assumes that the market price of securities traded in an efficient market reflects all publicly-available material information, including any material misrepresentations.

Twenty-five years after Basic, Amgen asks the Court to decide whether class action plaintiffs must prove the materiality of alleged misstatements to use the Basic presumption at the class certification stage (and thus allow a Court to find that common issues of reliance predominate). In Amgen, the district court certified the proposed class for trial even though Connecticut Retirement provided no evidence to establish materiality, ruling that plaintiffs “need only establish that an efficient market exists” to take advantage of the Basic presumption at that phase of the litigation. Conn. Ret. Plans & Trust Funds v. Amgen, Inc., 2009 WL 2633743, at *12 (C.D. Cal. Aug. 12, 2009). The Ninth Circuit affirmed this determination, following the Seventh Circuit’s approach in Schleicher v. Wendt, 618 F.3d 679 (7th Cir. 2010), and holding that plaintiffs must “plausibly allege—but need not prove . . . that the claimed misrepresentations were material” at the class certification stage. Conn. Ret. Plans & Trust Funds v. Amgen Inc., 660 F.3d 1170, 1172 (9th Cir. 2011). This approach, however, differs from that of the Second and Fifth Circuits, which require proof of materiality under such circumstances. See In re Salomon Analyst Metromedia Litig., 544 F.3d 474 (2d Cir. 2008); Oscar Private Equity Invs. v. Allegiance Telecom, Inc., 401 F.3d 316 (5th Cir. 2005).

The Amgen parties’ prior written submissions to the Court mirror this circuit split. Amgen argues that, because the FOTM theory assumes that efficient markets incorporate only material information, courts have no basis to presume that immaterial statements are reflected in the market price of a security (and thereby affect all plaintiffs in common). Br. for Pet’rs at *17-19, Amgen (No. 11-1085), 2012 WL 3277030 (U.S. Aug. 8, 2012). Connecticut Retirement, on the other hand, contends that the only indispensable FOTM prerequisites are (1) that the security in question was traded in an efficient market, and (2) that the alleged misrepresentations were public. Br. for Resp’t in Opp’n to Cert. at *9, Amgen (No. 11-1085), 2012 WL 1666404 (U.S. May 11, 2012). Once these two predicates are established, says Connecticut Retirement, certification is proper because “falsehood and materiality affect [all] investors alike” and “if the misrepresentations turn out to be immaterial, then every plaintiff’s claim fails on the merits.” Id. at *13.

Oral Argument Reflects a Divided Court

During oral argument, questioning by Justices Kagan, Breyer, Ginsburg and Sotomayor suggested an inclination to affirm class certification, reasoning that once plaintiffs establish the existence of market efficiency and a public statement, materiality becomes a common question that courts need not determine at the class certification stage. Counsel for Amgen emphasized that the question before the Court was not materiality, but indirect reliance via the Basic presumption, the commonality of which cannot be established without proof that the alleged misrepresentations were in fact material (and thus actually moved the market).  Counsel for Amgen added that, as with any other FOTM predicate, a finding that materiality is lacking at the class certification stage does not foreclose individual plaintiffs from later moving forward with actions based on direct reliance. Justices Ginsberg and Kagan disagreed on this point, indicating their view that a finding of immateriality at the class certification stage would effectively end the case.

Justice Breyer also expressed concern that proof of materiality is premature at the class certification stage given materiality’s dual role as both a condition under Basic and an element of the substantive claim. Counsel for Amgen replied that “[t]he point of the class certification . . . is the question whether there is class coherence in the first place. It’s not the merits.” Indeed,

[t]he real question in this case is what is the purpose of Rule 23? If you think that the purpose of Rule 23 is to postpone to the merits everything that can be postponed without a risk of foreclosing valid individual claims, we lose. But that’s not the purpose. The purpose is for a court to determine whether all of the preconditions for forcing everyone into a class action are present before you certify. (emphasis added)

According to Petitioner, the alternative of pushing everything to the end “is like letting the fruits justify the search.”

Counsel for Respondent, on the other hand, contended that a class action is the most efficient method for adjudicating materiality because the presence of an efficient market establishes the relevant security’s “ability to absorb [public] information, both material and non-material,” for all plaintiffs at once. Counsel representing the United States in support of Respondents contributed to this argument:

The most efficient course is to actually focus on common issues. . . . In the current [embodiment] of Rule 23(b)(3), you want to certify class actions that are both meritorious and those that are not, so it reaches a binding judgment.

One major point of dispute during oral argument was Justice Breyer’s suggestion that, unlike other FOTM predicates, materiality “is a common element of the tort . . . it will [always] be litigated, so there is no special reason . . . for litigating [it] at the outset.” However, Justice Scalia strongly disagreed on this point:

But there . . . is a reason for deciding it earlier, and the reason is the . . . enormous pressure to settle once the class is certified. In most cases, that’s the end of the lawsuit. There’s . . . automatically a settlement.

In this vein, Justice Scalia noted several times that materiality is a precondition to obtaining the “shortcut” provided by Basic’s presumption of reliance. Justice Scalia underscored this point by openly wondering whether the Court should overrule Basic “because it was certainly based on a theory that -- that simply collapses once you remove the materiality element.”  As Justice Scalia noted, “[i]t’s not an efficient market if it’s, you know . . . random[.] It takes account of material factors.”

Final Analysis and Conclusions

Unfortunately, the oral argument in Amgen offers few additional clues as to how the Court will rule. The Justices’ questions indicate that the Court is divided along its usual ideological lines, with Chief Justice Roberts holding the swing vote. However, the authors continue to believe that Amgen has the better argument in this case. In our view, Justice Scalia, through his questioning, effectively made the point (and will be able to persuade a majority of the Court) that for a plaintiff to avail itself of the significant procedural benefit that the Basic presumption already provides, it has to show materiality at the class certification stage.

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On Friday September 7, 2012, the University of Michigan Law School dedicated its new South Building, an impressive new facility that beautifully complements the school’s venerable Law Quadrangle (see picture below). U.S. Supreme Court Justice Elena Kagan delivered the keynote address at the dedication ceremony. (I attended the event because it coincided with my 30^th law school class reunion.) Prior to the ceremony, Justice Kagan appeared on the stage with Michigan Law School Dean Evan Caminker for a question and answer session. The session is summarized below.

Kagan has been serving on the Court since August 2010, after a relatively short stint as Solicitor General. She previously served as Dean of Harvard Law School, following her service in various positions in the Clinton White House. She began her academic career at the University of Chicago Law School, after her judicial clerkship with U.S. Supreme Court Justice Thurgood Marshall.

Several of the initial questions for Justice Kagan concerned the way the Court has changed since her days as a judicial clerk. She noted that the Court is a “slow-moving institution’ Information technology “has not reached the Court,” and the justices still communicate with each other using written memoranda. The practices have not changed with technology because overall the Court “works well as an institution” and it has developed practices that “allow us to do our job.”

Justice Kagan did identify two things about the Court that have changed. First, a Supreme Court bar has developed, consisting of specialized lawyers who “understand what the exercise is all about” and who are “extremely good at it.” It means that the justices “get answers to our questions” and can “engage in the kind of dialog that we all want.” She commented that with the experienced practitioners, “there’s a kind of comfort level” and “informality.” She noted that states “are really getting their act together,” and that the quality of the representation of the states’ interests “has really gone up.”

She added that it is” frustrating” when “we don’t get good lawyers.” She noted one particularly area of weakness “on the criminal defense side” She commented that she hoped in the future that the criminal defense bar would do something along the lines of what the states have done.

Another thing Justice Kagan said has changed is that Court now has “a more active bench.” She noted that the current practices began with Justice Antonin Scalia who “wanted to try to make the hour more useful.” All of the more recent appointees, she observed, are more active questioners than the justices they replaced, noting as an example that she asks more questions than did Justice Stevens (whose place she took on the Court). She did allow, with respect to the justices’ questions, that it may be getting “into the place where” the level of questioning “is too much.” She said that Chief Justice Roberts is an effective “traffic cop,” but she wonders whether “he should have to do that,” adding that perhaps “we should step it back a little.”

She did say that the oral arguments do matter. She said that the briefs are more important, but that the arguments “can make a difference—both ways, you can sway or you can lose a case.” The lawyers know the crux of the case, and “when you hear them say it,” the justices ask themselves – particularly in cases where they are not yet sure where they stand – “how does that sound to me?” She added that oral argument can make a difference even sometimes in cases where going into the argument "you think you have it figured out.”

Another difference at the Court that she noted comparing to what she observed as a law clerk is that there are differences in the amount of communication around the Court. Her observation is that the level of communication between the justices outside of the conference has changed. She added that she has noted that even in the conference, there is a great deal of “back and forth,” particularly when they justices have not “yet arrived at a theory that can get five votes.” She added the observation that “it is a great court full of thoughtful and smart people.”

In response to a question, she commented on the role of the judicial clerks. She said that they “do what they ought to be doing.” They “are not deciding cases,” adding that the “notion” that has been advanced in certain parts of the popular press that judicial clerks get involved in deciding cases is “an unfounded idea.” She said one very important role that the clerks play is helping to winnow the thousands of petitions the court receive, adding that the clerks “principal role” is helping to “figure out what cases to take.” The clerks sort through the 10,000 petitions to “identify “the 200 to 300 cases worth looking at.” She added that they do “an extremely good job” at that.

She took pains to emphasize that she writes her own opinions, and while she asks her clerks to draft position statements, she warns her clerks that “if you see a single sentence you wrote in the Supreme Court Reporter, that will be a big day in your life.”

She did acknowledge that it does have an effect when the Court takes up a high profile case. She noted that it is “hard not to be aware there’s a lot of scrutiny.” She said that she “doesn’t think it affects the way we go about our work and they way we do our function.” Those who believe that the things they are saying “have some effect” on the Court “would be disappointed.” Even if there is “political controversy,” it “does not affect our consideration of the cases.” She felt that in a democracy, people “should be free to criticize the Court” but the Court “shouldn’t be pressured to do things,” and she is “100% certain we are not pressured.”

A student questioner raised the concern that recent polls had shown that the public respect for the Court as an institution has declined and that there are increasing concerns that the Court is deciding cases with decision splits determined according to the party of the Presidents that appointed the various justices. The student asked what the Court could do to eliminate these perceptions.

Justice Kagan responded (noting, after a lengthy pause, that it was a “very serious question”) that she is aware of the polls. She commented that in general people’s “trust in all institutions has declined,” so the decline in the public respect for the Court may “not have anything to do with what the Court has done.” She did say that she “wouldn’t want to discount the feeling that the Court has become divided politically.” She added that “it is really bad thing if the public thinks” cases are being decided on a political basis, and that it is “worth thinking about why this is and what can be done.”

One reason for this public view may be the number of 5-4 decisions. The cases that are decided by a 5-4 vote only represent about ten out of the 80 cases decided in a term, but some of these are “important cases.” The concerns can arise when there is perception that the votes are “consonant” with “who has nominated the justices,” something that “has not been the case historically.” She stressed that “there is not … a single vote that is made because of whether I like the President or not, or because I do or do not want to help one party or another.” She acknowledged that given the various justices’ different backgrounds and points of view, “we approach cases in different way” adding that “we may have different views on how we regard precedents.” It would be, she allowed, better “if there were fewer of these [5-4] decisions.” But as “each case comes along, you have to decide it, you can’t decide it in a way to avoid these kinds of splits.”

She noted that many people believe that the Court is polarized, often because of colloquy or commentary that may appear in published opinions. She said that one justice advised her that “if you take those things personally, you are going to have a long life tenure.” She understands that some people may read statements in some opinions and think “they must hate each other.” She said that, to the contrary, “we like each other a lot,” that the Court is “quite collegial,” that all of her colleagues are “quite warm.” The disagreement that occurs is “part of the job,” and she believes that all of the justices “are operating in good faith.” Besides, she noted, “life tenure is long” and it “would not be pleasant or useful to hold big grudges.”

Justice Kagan noted, in response to a question, that there are now three female justices and that it “would be even better if there were five” (a comment that drew audience applause). She said, however, that it makes “precious little difference in what happens in the conference room.” The value she sees from the presences of women on the Court is that it “changes how the Court looks to the outside world.”

When asked her views about the possibility of cameras in the Supreme Court’s courtroom she said that before she went on the Court she would have said, “Sure, why not?” She believes that “transparency is good.” However, now that she is on the Court, she wonders whether the presence of the cameras might “make me think about how I ask a question.” She also noted that following the oral arguments in the health care case, the Court issued audio tapes of the arguments, and almost immediately parts of the arguments were made into political advertisements. She worries that if there were video of the arguments, there would be much greater use of that type. She is “hopeful” that other courts will experiment to see what works best, but “wouldn’t volunteer the Court to be the first.”

She did have some interesting comments on her role as the most junior member of the Court. Because she has the shortest tenure on the bench, she does have certain duties. One is that she must answer the door if someone knocks while the justices are meeting in conference, and she is also responsible for taking notes in conference (two duties that she notes have a certain incompatibility). She added that she also serves on the Court’s cafeteria committee, where one of her greatest accomplishments has been to arrange to have a frozen yogurt machine installed in the cafeteria. (This statement drew applause from the audience, with respect to which Justice Kagan noted that “That was the reaction of the Court staff as well.”)

The New South Building at the University of Michigan Law School::

The Pre-Game Ceremony from the Michigan-Air Force Football Game: You have to watch this short but totally awesome video tape of an event that occured during the pre-game ceremony at the Michigan-Air Force Football Game on Saturday. The event was even more awesome live because it was completely unexpected;there was absolutely no warning of what was about to happen.

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On Monday, June 11, 2012, the United States Supreme Court granted the petition of Amgen for a writ of certiorari in a securities lawsuit pending against the company. As a result, next term the Court will be addressing the question of whether securities plaintiffs must establish in their class certification petition that the alleged misrepresentation on which they rely was material. The Court’s June 11 order can be found here.

As discussed at greater length here, the plaintiff first sued Amgen and certain of its directors and officers in the Central District of California in April 2007. The plaintiff alleged that Amgen made misrepresentations about the safety of two of its products. The plaintiff also alleged that the company made misrepresentations about a May 2004 FDA advisory meeting; about clinical trials involving one of the products; about the safety of on-label uses of the two drugs and about the marketing of the drugs.

The plaintiff moved to certify a class of Amgen shareholders. The defendants opposed the motion, arguing that the plaintiff was not entitled to a class-wide presumption of reliance based on the fraud-on-the-market theory, because the plaintiff could not show that the alleged misrepresentations were material. To the contrary, the defendants argued that as a result of analyst reports and public documents, the market was aware of the information that the plaintiff alleged had been concealed.

In an August 12, 2009 Minute Order (here), Central District of California Judge Phillip Gutierrez granted the plaintiff’s class certification motion, rejecting the defendants’ argument that the plaintiffs’ had to establish the materiality of the alleged misrepresentation to trigger the presumption.

The Ninth Circuit granted the defendants leave to appeal the class certification ruling. In a November 8, 2011 decision written by Judge Barry Silverman for a three-judge panel of the Court, the Ninth Circuit affirmed the class certification.

The Ninth Circuit rejected the defendants’ contention that the plaintiff must provide proof of materiality at the class certification stage. The Ninth Circuit said that, as a predicate to class certification, a plaintiff need only show that the market for a company’s shares is efficient and that the supposed misstatements were public. The Ninth Circuit reasoned that because materiality is “an element of the merits” of a securities class action, it need only be addressed at the trial stage or in a summary judgment motion. The Ninth Circuit also approved the district court’s refusal to consider the company’s rebuttal evidence on the issue of materiality.

Amgen then filed a petition to the United States Supreme Court for a writ of certiorari. In its petition, a copy of which can be found here, Amgen argued that there is an “irreconcilable conflict” in the federal judicial circuits on the question of whether or not a plaintiff must establish materiality at the class certification stage. According to the cert petition, the Second and Fifth Circuits have held that a plaintiff must prove materiality for class certification and that defendants may present evidence to rebut the applicability of the fraud-on-the-market theory at the class certification.

The Third Circuit, according to the petition, has adopted an “intermediate approach” which holds that a plaintiff does not need to demonstrate materiality as part of an initial showing before class certification, but that defendants may rebut the applicability of the fraud-on-the market theory by disproving the materiality of the alleged misrepresentation.

The Seventh and Ninth Circuits, by contrast, hold that district courts are barred from considering materiality at the class certification stage.

Amgen argues in its petition that

The issue at the heart of the circuit split here is whether the defendants should be forced to defend securities fraud litigation against a class of plaintiffs, based on a rebuttable presumption, in instances where the named plaintiff has yet to prove all the predicates of the very theory that allows for class certification in the first place, and where the defendant is given no opportunity for rebuttal prior to certification.

Amgen stressed not only the logic concerns, but fairness concerns as well,l because of the “in terrorem power of certification” in the securities litigation context, which often compels defendants to enter into  massive settlements. The presence or absence of this kind of pressure will, Amgen argued, depend on the circuit in which the case was filed. In the Seventh and Ninth Circuits, the company argued, defendants “will frequently be forced by practical realities, to settle cases for enormous sums regardless of whether they have a meritorious materiality defense,” while in the Second and Fifth Circuits, the plaintiffs would have to establish materiality as a precondition to class certification, and in the Third Circuit, the defendants would have the opportunity to rebut any materiality showing.

In opposing the cert petition, the plaintiffs first argued that there is in fact no circuit split, but rather, the Ninth Circuit opinion stood alone as the first decision to consider the materiality arguments in light of the U.S. Supreme Court’s recent decisions in Erica P. John Fund v. Halliburton and in WalMart v. Dukes. The plaintiff also argued that the supposed circuit split on which Amgen relies is merely the product of a “strained” reading of the various courts’ opinions. The plaintiff also opposed the petition on procedural grounds, among other things.

There were also several amicus briefs filed in connection with Amgen’s cert petition, including one filed by several former SEC commissioners and certain law and finance professors, which was filed in support of Amgen’s petition. In their amicus filing, the commissioners and professors argued that the U.S. Supreme Court’s seminal decision in Basic v. Levinson (which recognized the fraud-on-the-market presumption)

recognized that any showing that severs the link between an alleged misrepresentation and the market price of a security – including a showing that a misrepresentation was immaterial – rebuts the presumption of reliance and makes class certification improper.

The commissioners and professors also argued that what they described as a “three-way circuit split” has produced a “deep and persistent conflict” that “invites forum shopping.”

Amgen was also supported in its petition in amicus briefs filed by the U.S. Chamber of Commerce and the Pharmaceutical Research and Manufacturers of America.

Discussion

In granting Amgen’s petition, the Roberts court once again demonstrates its willingness to take up securities cases. Over the past several terms the Court has taken up numerous securities cases that have individually and collectively had a significant impact on securities litigation. In that sense, the plaintiff definitely has a point about the fact that the lower courts are trying to work through all of the issues and implications of the recent raft of securities law and class action procedure questions coming out of the Supreme Court.

Though the Supreme Court is still generally weighted toward a more conservative predisposition, and though the Court’s decisions in recent years have included a number of defendant-friendly securities law decisions (for example, the Tellabs and the Morrison decisions), the Court’s decisions have not been uniformly defendant- friendly. For example, the Court’s 2011 decision in the Matrixx Initiatives case rejected the defense argument that in order to establish materiality, a plaintiff had to show that the allegedly omitted information was “statistically significant.”

Another element that adds to the unpredictability is the possibility that the Court will go off in an unexpected direction, as it did in the Morrison decision. In Morrison, Justice Scalia’s majority opinion set aside decades of lower court case law on the “cause and effects” test to establish the extraterritorial effect of the securities laws, and promulgated a new “transaction” based test in its stead. There is always the possibility here that the Supreme Court --rather than narrowly interpreting the existing standard under Basic v. Levinson for the applicability of the fraud-on-the-market presumption -- does something more radical instead,  like entirely redefining whether, when and how the fraud-on-the market presumption might apply. Indeed, this case presents the Court with its first clear chance to revisit the doctrine since it was first arrticulated in the Basic case nearly a quarter of a century ago.

One final factor that could affect the outcome is the possibility that Justice Breyer may not participate in the consideration of the Amgen case. In its June 11 order granting the cert petition, the Court noted that Breyer “took no part in the consideration or decision of this petition.” If he were to similarly remove himself from the Court’s consideration of the merits of the case, there would be at least the numerical possibility for a dreaded 4-4 split among the justices.

This will in any event be an interesting case to watch. Issues relating to class certification potentially have a very significant impact on the seriousness of the case. To the extent Amgen prevails on the merits and establishes that plaintiffs must show materiality at the class certification stage, the defendants will have one more tool in the toolkit to undermine the plaintiff’s case and to try to reduce the threat that the case represents to the defendants.

As the Morrison & Foerster firm said in its June 11, 2012 memorandum about the Supreme Court's cert grant in the Amgen case,

A clear answer from teh Supreme Court to these questoins coud have a significant impact on securities litigation. A decision that endorses the Ninth Cirtcuit's approach could made securities litigation more costly for defendants, particularly in circuits where plaintiffs are presently required to prove materiality at class certification. Conversely, a decision rejecting the Ninth Circuit's approach could provide defendants an early opportunity to challenge the viability of class action claims.

David Bario’s June 11, 2012 Am Law Litigation Daily about the grant of the Amgen cert petition can be found here.

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In a June 13, 2011 opinion written by Justice Clarence Thomas, the United States Supreme Court held, by a 5-4 margin, in the Janus Capital Group, Inc. v. First Derivative Traders case,  that a mutual fund management company cannot be held liable for the alleged misstatements in the prospectuses of the mutual funds that the management company administered. Justices Ginsberg, Sotomayor and Kagan joined in Justice Stephen Breyer’s dissent. A copy of the June 13 opinion can be found here.

Background

Janus Capital Group (JCG) is the holding company for a family of mutual funds. Janus Capital Management (JCM) is the funds’ investment advisor. In November 2003, JCG investors filed a complaint in the District of Maryland alleging that the two firms were responsible for misleading statements in the certain funds’ prospectuses. The allegedly misleading statements represented that the funds’ managers did not permit, and took active measure to prevent, "market timing" of the funds. The investors claim they lost money when market timing practices JCG and JCM allegedly authorized were made public.

In 2004, JCM reached a settlement with the SEC in connection with the market timing allegations in which the firm paid a disgorgement of $50 million and an additional $50 million in civil penalties. Information regarding the settlement can be found here.

The district court dismissed the shareholders suit in May 2007. The shareholders appealed to the United States Court of Appeals for the Fourth Circuit. In a May 7, 2009 opinion (here), the Fourth Circuit reversed the district court, finding that the shareholders had adequately stated a claim under the securities laws. The defendants’ filed a petition for writ of certiorari, which the Supreme Court granted on June 28, 2010. Refer here for further background regarding the case

The June 13 Opinion

The fundamental question before the court is whether or not the management company could be said to have made the statements in the funds’ prospectuses. The Court held that because the management company did not make the statement, it could not be held liable, reversing the Fourth Circuit.

Justice Thomas, writing for the majority, said that “one ‘makes’ a statement by stating it” and that for purposes of Rule 10b-5, “the maker of the statement is the person or entity with ultimate authority over the statement, including its content and whether and how to communicate it.”

With this analysis as the starting point, and following the Court’s prior decisions in the Central Bank and Stoneridge cases (about which refer here), the majority adopted the rule that “the maker of the statement is the entity with authority over the content of the statement and whether or how to communicate it. Without such authority, it is not ‘necessary or inevitable’ that the falsehood will be contained in the statement.”  

The majority opinion went on to state that even if the management company may have been “significantly involved” in preparing the prospectus, this “assistance” was still subject to the ultimate control of the funds and their trustees. The majority analogized the management company’s role to that of a speechwriter; the ultimate speaker is the one that makes the speech. Because the management company did not make the alleged misstatements, they could not be held liable under Rule 10b-5.

In his dissent, Justice Breyer contended that that the majority “has incorrectly interpreted the Rule’s word ‘make.’” He argued that “both language and case law indicate that, depending on the circumstances, a management company, a board of trustees, individual company officers, or others, separately or together, might ‘make’ statements contained in a firm’s prospectus, even if a board of directors has ultimate content-related responsibilities.” Breyer further argued that Central Bank and Stoneridge were not controlling, as they concerned only secondary liability, whereas this case concerned primary liability.

Discussion

Despite the narrow 5-4 split, this decision comes as no surprise (at least to me). The argument that a legally separate entity that assists with but does not actually make the statement would be very hard to distinguish from the kind of “aiding and abetting” liability the Court rejected in the Stoneridge case. Indeed, as I noted at the time, that may well be why the Supreme Court took this case, to clarify that the “substantial participation” test that the Fourth Circuit had enunciated was inconsistent not only with the holdings of the other Circuit courts but also with the Supreme Court’s precedents in Stoneridge and Central Bank.

The case does break the short streak the plaintiffs had been enjoying before the Court. Earlier in the term, the Court had ruled favorably to plaintiffs in the Matrixx Initiatives case (refer here) and more recently in the Halliburton case (refer here). 

But while this case is favorable to the defendants, I don’t think it will result in any huge transformation in other cases going forward. The Fourth Circuit’s holding in this case was out of step with the holdings in the other circuits. While the outcome at the Supreme Court level might eliminate a pleading advantage the plaintiffs might have enjoyed in the Fourth Circuit, the result of this decision will really not change things elsewhere. Had the plaintiffs prevailed before the Supreme Court, the outcome would have had a significant impact on future cases. However, because the defendants instead prevailed, the impact of this decision will be limited and largely confined to the Fourth Circuit.

One final note for those readers who might have read the guest post of Brian Lehman published last Friday on this blog, in which Lehman attempted to predict the outcome of the Janus case, the case did not turn out as he had prognosticated. He had suggested that the Court might defer to the SEC’s interpretation, which the majority expressly declined to do in footnote 8, because the Court did not find the word “make” to be ambiguous.

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As the current Supreme Court term gets ready to draw to a close, many court observers are awaiting the Court’s decision in the Janus Capital case (background here). With the opinion due to be released any day now, I am pleased to be able to publish here a guest post from Brian Lehman, who is an associate at the Bernstein Liebhard law firm, in which Brian presents his prediction of how the Court will decide the Janus Capital case. Because the release of the Court’s decision may be imminent, I am presenting this guest post in the form of a special Friday afternoon edition.

I would like to add by way of introduction that I am always happy to accept proposed guest blog posts from responsible commentators. Please let me know if you think you would like to publish a guest post on this site.

Here is Brian’s guest post:

Predicting how the Supreme Court will decide a particular case can be a fool’s errand, but that’s also what makes it fun. So, as the securities litigation bar awaits the Court’s decision in Janus Capital v. First Derivative Traders, I offer a doozy: In Janus, Justice Thomas will defer to the position taken by the Securities and Exchange Commission (SEC) in its amicus brief and author a majority opinion holding that a person or company “makes” a false statement under Rule 10b-5 when “writing or speaking it, providing false or misleading information for another to put into it [e.g., a prospectus] or allowing it to be attributed to him.” Only Justice Scalia will dissent. And the decision will be heralded as the third opinion this term favoring securities class action plaintiffs (Matrixx and Halliburton are the other two).

By way of background, Janus Capital Group, Inc. is a publicly traded asset management firm that sponsors a family of mutual funds. The investment advisor to the funds is Janus Capital Management LLC. Investors sued the firm and the advisor on the ground that they knowingly or recklessly made false statements about how the funds would be operated. 

According to the complaint, the funds’ prospectuses created the misleading impression that the firm and advisor would implement measures to curb market timing in the fund when in fact, “secret arrangements with several hedge funds” allowed market timing transactions. The lead plaintiff seeks to represent a class of investors who purchased shares of the firm’s stock at inflated prices starting in 2000 and ending in 2003, when the market timing agreements were publicly revealed and the stock’s price dropped significantly. 

Rule 10b-5 states that it is unlawful for “any person, directly or indirectly” to “make any untrue statement of a material fact . . . in connection with the purchase or sale of any security.” In the lower courts, the advisor argued, among other things, that it did not make any of the false statements because they were not attributed to the advisor in the prospectus.

 In Janus, there are two questions that must be answered. First, what does it mean to “make” a statement? Second, once that standard has been established, is it plausible that the advisor made the statements based on the factual allegations in the complaint? 

My prediction only addresses the first question, and here is my reasoning. As Tom Goldstein at SCOTUSblog wrote last Thursday: “For the December sitting, only the Janus securities fraud case is outstanding. Justice Thomas is almost certainly the author, because he is the only Justice who does not yet have an opinion from that sitting.” Goldstein has explained before: “By tradition, the Court attempts to evenly distribute majority opinions, both within individual ‘sittings’ and across the entire Term.” (A “stat pack” that shows the distribution of decisions is available here.)

The length of time that it has taken for the Court to issue its decision indicates that there will be a dissent. The other cases argued in December had opinions issued in 109 days on average. Janus is now at 186 days and counting.

Many lawyers might think if Justice Thomas is writing the opinion and there is a dissent, then the defendants are going to win – perhaps a classic 5-4 split with Justice Kennedy in the majority? But yesterday, Justice Thomas issued a decision signaling that something else could be afoot.

The issue in Talk America, Inc. v. Michigan Bell Telephone Company was whether a regulation passed by the Federal Communications Commission (FCC) required local exchange carriers to make their existing entrance facilities available to competitors at cost-based rates in certain circumstances. In holding that the regulation did require this, Justice Thomas wrote: “As we reaffirmed earlier this Term, we defer to an agency’s interpretation of its regulations, even in a legal brief, unless the interpretation is plainly erroneous or inconsistent with the regulations or there is any other reason to suspect that the interpretation does not reflect the agency’s fair and considered judgment on the matter in question” (quotations marks and alterations omitted).

Justice Thomas quoted and relied upon Chase Bank USA, N. A. v. McCoy, which was issued on January 24, 2011, and Auer v. Robbins, a Supreme Court decision from 1997 and the reason why deferring to an agency’s interpretation is called “Auer deference.”

Rule 10b-5 is, of course, a regulation passed by an agency – the SEC. And the SEC set forth its position on how to interpret Rule 10b-5 in its amicus brief: “The Commission has construed the term ‘make’ as providing for primary liability when a person ‘creates’ a misrepresentation either by writing or speaking it, providing false or misleading information for another to put into it, or allowing it to be attributed to him. Under Auer v. Robbins, 519 U.S. 452, 461 (1997), the Commission’s construction of its own rule is entitled to controlling weight.”

If the Justices are going to be consistent, they will either need to defer to the SEC’s interpretation of Rule 10b-5 or explain why Auer deference doesn’t apply to the SEC’s interpretation of its own rule while distinguishing Talk America and Chase Bank from Janus. Deferring to the SEC seems far more likely.

If that’s correct, then we can expect Justice Thomas to issue an opinion in Janus that will be joined by all of the Justices but one: Justice Scalia. Yesterday, Justice Scalia stated that he agreed with the result in Talk America on the ground that “the FCC's interpretation is the fairest reading of the orders in question,” but then stated “[i]t is comforting to know that I would reach the Court’s result even without Auer.  For while I have in the past uncritically accepted that rule, I have become increasingly doubtful of its validity.” After outlining some of his concerns, Justice Scalia concluded: “We have not been asked to reconsider Auer in the present case. When we are, I will be receptive to doing so.” In contrast, the other Justices joined Justice Thomas’s opinion.

Janus looks to be the case where Justice Scalia will provide his reasons why Auer should be reconsidered. At oral argument in Janus, Justice Scalia argued against the SEC’s interpretation: “If someone writes a speech for me, one can say he drafted the speech, but I make the speech.” Counsel for the respondent (the plaintiff’s lawyer) answered, “Justice Scalia, we address the definition of ‘make’ under the SEC's interpretation, which is entitled to deference, as being to create or to compose or to accept as one’s own.”

Justice Scalia didn’t have an immediate response to counsel’s argument that the Court should defer to the agency, but instead answered: “That – that’s not what – it depends on the context of ‘make.’ If you’re talking about making heaven and earth, yes, that means to create, but if you're talking about making a representation, that means presenting the representation to someone, not – not drafting it for someone else to make.”

Reporters who closely follow the Supreme Court know that “Scalia doesn’t come into oral argument all secretive and sphinxlike, feigning indecision on the nuances of the case before him. He comes in like a medieval knight, girded for battle. He knows what the law is. He knows what the opinion should say.” Justice Scalia wasn’t playing devil’s advocate when he argued over what “makes” means; Justice Scalia just doesn’t agree with the SEC’s interpretation. But Justice Scalia also didn’t have an answer to the argument that the Auer deference should apply, and it is fairly uncharacteristic of Scalia not to have a response.

There is one last thing to note. At the end of January, Scalia joined the unanimous opinion in Chase Bank authored by Justice Sotomayor that held: “Under Auer v. Robbins, 519 U. S. 452 (1997), we defer to an agency’s interpretation of its own regulation, advanced in a legal brief, unless that interpretation is 'plainly erroneous or inconsistent with the regulation.’” If Scalia is now changing his mind about Auer deference, it must be because something happened in the last four months. 

To review: Janus has taken an extraordinary amount of time to be issued, which indicates a dissent. But interpreting the word “make” is not particularly difficult regardless of whether one is in the majority or dissenting. The briefs and decisions by the lower courts have fully covered this ground.

Nor is it difficult to determine whether the allegations in the complaint give rise to a plausible claim after the word “make” is interpreted. For example, in Matrixx, the Justices unanimously determined that the allegations gave rise to a plausible claim in an opinion that was issued in a mere 71 days. 

The Justices must be disagreeing about something else. Given the amount of time that has elapsed, the issue is probably significant and perhaps something that was not fully briefed or considered by the parties. 

A disagreement over Auer deference fits perfectly. Although the press hasn’t covered it, few, if any, issues decided this term can compare to the Court’s repeated holding that courts should defer to an agency’s interpretation of its own regulation. Anyone who thinks otherwise should consider this fact: the Dodd-Frank Act alone requires 243 rulemakings by eleven agencies. 

A year ago, I had either not heard of Auer or I had forgotten about it. Within a few years, every lawyer who works for a corporation will know this case. If an environmental regulation is ambiguous, defer to the agency. If an agricultural regulation is ambiguous, defer to the agency. If an energy regulation is ambiguous, defer to the agency. Defer, defer, defer. Here is the federal government’s A-Z Index of U.S. Government Departments and Agencies –  there are a lot of them.

But, despite the importance of Auer, the argument over whether the Court should defer to the SEC has not been well-developed. The Petitioners’ merits brief on behalf of the defendants does not mention Auer; the Respondent’s merits brief mentions it three times but does not dwell on it; and the Petitioners’ reply brief responds to the case with a single footnote on page 10 of its brief. 

Moreover, the Justices were not focused on this issue at oral argument. The word “deference” was only mentioned one time at oral argument – when Justice Scalia disagreed with counsel on how to interpret the word “make.” When Curtis Gannon argued on behalf of the government, he was immediately asked by Justice Sotomayor to distill his brief into “three sentences.” He responded by arguing the merits, rather than arguing that the Court should defer to the SEC’s interpretation.

When I put all of the pieces of the puzzle together here is what I get: Justice Thomas will write the majority opinion and defer to the SEC’s interpretation of Rule 10b-5; everyone but Justice Scalia will join. 

Justice Scalia disagrees with the SEC’s interpretation of the word “make” and has begun to question why courts should defer to agencies when interpreting their regulations. 

But the issue is not well-developed, so it is taking more time than usual for Justice Scalia to make his arguments. Justice Scalia has also realized how significant this issue is and, if Justice Scalia stays true to form, he is putting together quite the dissent.

-- Brian Lehman is an associate with the New York law firm of Bernstein Liebhard LLP. He concentrates his practice on complex and class action litigation. He may be contacted at lehman@bernlieb.com.

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I am pleased to reprint below as a guest post a detailed article about the oral argument this past week before the United States Supreme Court in the case of Erica P. John Fund v. Halliburton Co., No. 09-1403. This guest post was submitted by my friend Kimberly M. Melvin. Kim is a partner in the Wiley Rein law firm in Washington D.C. Background regarding the Halliburton case can be found here. The parties’ briefs in the case, including briefs from amici curiae, can be found here.

I would like to thank Kim for her willingness to publish her article on this site. I welcome guest post from responsible commentators on topics relevant to this blog. Any readers who are interested in publishing a guest post on this site are encouraged to contact me directly.

Here is Kim’s guest post: 

This week, the United States Supreme Court heard oral argument in Erica P. John Fund v. Halliburton Co., No. 09-1403 (U.S.). The case involves the denial of a motion for class certification in a securities fraud suit that was affirmed by the United States Court of Appeals for the Fifth Circuit. The argument signals that the Justices are virtually certain to reverse the Fifth Circuit’s decision. Even Halliburton’s attorney, David Sterling of Baker Botts LLP, distanced himself from the Fifth Circuit’s holding that loss causation must be proven at the class certification stage to invoke the fraud-on-the-market presumption of reliance. Yet the Justices’ questions reveal the challenges of determining the specific contours of plaintiffs’ burden of proof at the class certification stage under Basic, Inc. v. Levinson, 485 U.S. 224 (1988), given the scope of inquiry under Federal Rule of Civil Procedure 23. The Supreme Court’s ruling in this case therefore should provide greater guidance to lower courts regarding: (1) what elements plaintiffs must prove to trigger the presumption of reliance at the class certification stage, including whether plaintiffs must prove stock price impact tied to the operative misleading statements; and (2) the contours of plaintiffs’ initial burden of production and ultimate burden of persuasion when defendants present rebuttal evidence.

Factual Background

In Halliburton, the shareholder plaintiffs maintain that from 1999 to 2001, Halliburton made false and misleading statements that understated its asbestos liability and overstated its revenues. At the class certification stage, plaintiffs argued that that a class-wide presumption of reliance applied based on the fraud-on-the-market theory. Defendants countered that plaintiffs could not show any statistically significant price movements in response to either the allegedly false statements or the so-called “corrective disclosures” that assertedly revealed the truth about the prior misstatements. As such, they argued that plaintiffs had not satisfied their burden of proving the operative facts necessary to establish the applicability of the fraud-on-the-market presumption of reliance. Without the presumption, plaintiffs would need to show individual reliance by each class member on the alleged misrepresentation to proceed, and therefore common issues would not predominate over individual issues as required to certify a class under Rule 23. 

The district court agreed, denying plaintiffs’ motion for class certification based on the Fifth Circuit’s holding in Oscar Private Equity Investments v. Allegiance Telecom, Inc., 487 F. 3d 261 (5th Cir. 2007). According to the district court, plaintiffs were unable to employ the fraud-on-the-market presumption of reliance because they failed to show any price distortion as a result of defendants’ alleged misrepresentations. The district court reasoned that plaintiffs presented no evidence that “‘false, non-confirmatory positive statements caused a positive effect on the stock price.’” Archdiocese of Milwaukee Supporting Fund, et al. v. Halliburton Co., et al., No. 3:02-CV-1152-M, 2008 WL 4791492, at *3 (N.D. Tex. Nov. 4, 2008) (quoting Ryan v. Flowserve Corp., 245 F.R.D. 560, 569 (N.D. Tex. 2007)). They also did not show: “‘(1) that an alleged corrective disclosure causing the decrease in price is related to the false, non-confirmatory positive statement made earlier, and (2) that it is more probable than not that it was this related corrective disclosure, and not any other unrelated negative statement, that caused the stock price decline.’”  Id. 

The Fifth Circuit affirmed, reasoning that plaintiffs could not invoke the fraud-on-the-market presumption of reliance because they had not proven loss causation. According to the Fifth Circuit, “because loss causation speaks to the semi-strong efficient market hypothesis upon which class wide reliance depends,” loss causation must be proven to determine whether class wide reliance may be presumed so that common issues predominate over individual issues under Rule 23. Oscar, 487 F.3d at 269. The Fifth Circuit requires “this showing ‘at the class certification stage by a preponderance of all admissible evidence.’” Archdiocese of Milwaukee Supporting Fund, et al. v. Halliburton Co., et al., 597 F.3d 330, 335 (5th Cir. 2010) (citation omitted).

On appeal to the Supreme Court, plaintiffs maintain that the Fifth Circuit imposed an improper burden on them because loss causation is a merits issue that is not relevant to the class certification inquiry under Rule 23. Halliburton and its CEO contend that under Basic, defendants are entitled to rebut the presumption of reliance based on lack of market impact, and that the outcome of the Fifth Circuit’s decision is consistent with that theory.

Summary of the Oral Argument

            Plaintiff’s Opening Argument

Counsel for the shareholder plaintiffs, David Boies of Boise Schiller & Flexner, led off the argument by focusing on the limited nature of the inquiry to certify a class under Rule 23. Nearly immediately, however, Mr. Boies was stopped by Chief Justice Roberts, who asked whether the existence of an efficient market could be disputed at the class certification stage.  While noting that the issue had been conceded by defendants below, Mr. Boies responded affirmatively that the efficient market issue is properly addressed at the class certification stage because “the issue of [an] efficient market goes to the presumption of reliance,” and if the court holds that the presumption is not available, “you can have a situation in which the common issues do not predominate over the individualized issues.” Transcript of April 25, 2011 Oral Argument in Erica P. John Fund v. Halliburton Co., No. 09-1403 (U.S. Apr. 25, 2011) (“Tr.”) at 4. 

This concession shaped the remainder of Mr. Boies’s argument. Thereafter Justices Alito, Kagan, Scalia and Sotomayor posed questions largely focused on why a court could address the efficient market issue at the class certification stage but not the issue of price impact. Mr. Boies repeatedly responded that loss causation was a merits issue only because it is a class-wide common issue whereas market efficiency addresses the reliance issue, which could raise individualized issues if plaintiffs could not invoke the fraud-on-the-market presumption. As such, Mr. Boies maintained that Basic provides that defendants can only rebut the reliance presumption at the class certification stage with “proof generally disproving the efficiency of the market” and other proof (such as a lack of market impact) must be “reserved for trial,” relying on footnote 29 in Basic. Tr. at 6. 

During Mr. Boies’s argument, Justice Scalia honed in on defendants’ position that although the Fifth Circuit used the term loss causation, the court was focused on market impact as a means of rebutting the fraud-on-the-market presumption of reliance. In this regard, Justice Scalia inquired: “Would you be satisfied if we just said we agree with you that the requirement to prove loss causation is -- no good, and sent it back to the Fifth Circuit and then let the Fifth Circuit adopt the theory that Respondents assert they have already adopted?  I mean, it’s sort of a Pyrrhic victory, it seems to me, if you haven’t just disapproved loss causation.” Tr. at 9. Mr. Boies acknowledged in responding that “if [the Fifth Circuit] simply changed the wording and called loss causation reliance, obviously it wouldn’t make any difference.” Id. However, Mr. Boies did reply that loss causation and reliance are distinct elements, and that loss causation could only be a class-wide common issue. Tr. at 9-10. 

            Argument on Behalf of the United States as Amicus Curiae

Nicole A. Saharsky for the government was up next. She focused on three asserted deficiencies in the Fifth Circuit’s decision: “First, the Fifth Circuit [is] conducting a merits inquiry that’s not tethered to the Rule 23 requirements; second, it’s taking a presumption and requiring plaintiffs to prove it; and third, it’s confusing the distinct elements of reliance and loss causation.” Tr. at 15. In addressing the questions posed to Mr. Boies, she affirmed that “[t]he Fifth Circuit could not be more clear” that it “is not talking about rebutting the presumption of reliance . . . [i]t is putting an affirmative burden on plaintiffs [of proving loss causation] that they have to meet in every single case, even if the defendants do not come to court with any evidence.” Tr. at 15. 

Justice Scalia quickly focused Ms. Saharsky on price impact and secured the concession that defendants can rebut the efficient market issue. Ms. Saharsky, however, reiterated Mr. Boies’s view that the rebuttal evidence could not include loss causation-related proof because loss causation raises merits issues that “stand or fall on a class-wide basis.” The response prompted Justice Kennedy to posit, “[t]he rule isn’t . . . that simply because the issue is on a class-wide basis, it can’t be challenged at the certification stage. We don’t have a rule that’s that broad, do we?” Tr. at 17. He, together with the Chief Justice, went on to suggest through further questioning that if a class-wide, merits-based issue must be proven to show that common issues predominate (i.e., to invoke the fraud-on-the-market presumption of reliance), like an efficient market, then inquiry as to that issue is appropriate under Rule 23. Tr. at 17-18. 

Attempting to address this suggestion, Ms. Saharsky replied that the inquiry is more limited: “when the plaintiffs invoke fraud on the market and they show that there is an efficient market, this Court said in Basic, they can all proceed together because they are showing that . . . the material misstatement was reflected in the stock price. This is an impersonal market in which you rely on the stock price. They all rely on it the same way.” Tr. at 19. Justice Alito seized on this response raising the critical issue to be addressed in the Court’s decision: “And if they show that the statement was not incorporated in the price . . . , then why doesn’t reliance cease to be a common issue and become a question of an individual issue that would have to be proved by each . . . member of the class?” Tr. at 19-20. Ignoring that in such a circumstance individual plaintiffs may still be able to prove direct reliance, Ms. Saharsky responded “[w]ell, in that circumstance reliance ceases to be and the case cannot be established on the merits. They stand or fall together on the merits.” Tr. at 20. Justice Alito followed up, questioning: “[B]ut the fact that they would lose on the merits doesn’t necessarily mean that they are entitled to class certification.” Tr. at 20. Ms. Saharsky rejoined, “They’re entitled to class certification if they have a common issue.” Tr. at 20. 

At the end of Ms. Saharsky’s argument, Justice Scalia asked a series of question trying to show that reserving price movement for consideration later because it is a “class-wide common issue” makes little sense when the efficient market issue itself is a common issue: “Instead of proving the efficient market,” what if plaintiff “can prove that there was a statement correcting the alleged misrepresentation, the price of stock went down . . . and they can certify the class.” Tr. at 22.  Ms. Saharsky responded that such an approach does not square with Basic, which provided that “in order to establish the presumption that you need to show the efficiency of the market.” Tr. at 22. Scalia pressed further, “They’re not relying on that assumption. . . . [T]hey come in and show that there was a correction of what we alleged was a misstatement and the market went down. . . . And of course, that proves anything only if there’s an efficient market. But that will be a common question to the whole class, so we’ll . . . save that for later.” Tr. at 22. Ms. Saharsky simply responded “Certainly in the courts of appeals now, that’s not the way the plaintiffs proceed. The way they proceed is on the Basic theory.” Tr. at 23. Justice Scalia rejoined, “I understand that. I’m just saying that seems to me it’s a crazy way to run a railroad.” Tr. at 23. Ms. Saharsky concluded by indicating that the courts have applied Basic for 20 years, Congress “has not seen fit to change it,” and respondents have never suggested that it should be revisited. Tr. at 24. The “problem in this case,” according to Ms. Saharsky, is that the Fifth Circuit “was not satisfied with the rules as they exist, and it took the class certification stage and turned it into a merits inquiry stage.” Tr. at 24. 

            Defendants’ Argument

Mr. Sterling then faced the Court. Almost immediately, he conceded that defendants “are not defending all of the language in Oscar, clearly, but the basic test in the Fifth Circuit . . . is not loss causation; it’s price impact, because Basic says . . . any showing that severs the link between the misrepresentation and the stock price defeats the presumption.” Tr. at 26 (citing Basic, 485 U.S. at 248). According to Mr. Sterling, “Basic makes clear . . . that a showing that the stock price was not distorted by the misrepresentation defeats the presumption.” Tr. at 26. He also acknowledged that “the Fifth Circuit put the initial burden on plaintiff and that’s contrary to Basic.” Tr. at 29. 

In response to Justice Kagan’s questions, Mr. Sterling described the Fifth Circuit’s essential test espoused by defendants: The test is “not loss causation as this Court knows it in Dura; the test is simply price impact,” meaning plaintiffs had to show price impact to invoke the presumption of reliance. Tr. at 27. This showing can be made one of two ways. First, “[t]hey can show price inflation upon a misrepresentation, which, as this Court made clear in Dura, is not synonymous with loss causation.” Second, they can “show a price decline following a corrective disclosure.” Drawing the distinction between this showing and loss causation, Mr. Sterling posited “while [the price impact] showing is similar to loss causation, it’s an easier, less rigorous showing of loss causation, because under the price impact test at the Fifth Circuit, all the plaintiff needs show is that it’s reasonable to infer that some portion of the decline was attributable to the revelation of the truth.” 

In an interesting exchange, Justice Breyer interposed a hypothetical in which a Company issues a false statement saying it found oil in a well, numerous people buy the company’s stock and when it turns out there is no oil, those people lose their money. Tr. at 30. Under his hypothetical, Breyer explains that the presumption of reliance says to a typical plaintiff, “[w]e’re going to say what happened to the typical person on the stock market during that period happened to you, and there are a lot of people who bought and sold on the stock market. And that’s why efficient markets is needed to show at the certification stage.” Tr. at 30. Turning to defendants’ position, Justice Breyer opined, “[b]ut what you’re just saying in terms of whether the revelation lowered the price has nothing to do with the question of what happened to the typical person. . . . It has to do with whether anybody was hurt” and “that has nothing to do with the certification stage.” Tr. at 20. 

Mr. Sterling replied that Basic created “an exception to the long understood rule that fraud cases were not appropriate vehicles for class actions because each individual would have to say . . . I read Halliburton’s statement and I relied upon it.” Because such proof would be impractical in most cases, the presumption assumes the entire stock market is like the typical plaintiff and relies on the integrity of the stock price when the stock price is distorted by the misrepresentation.  But if the stock price was not in fact distorted by the misrepresentation, it makes no sense to say everybody relied on the misrepresentation through its effect on the stock price.” Tr. at 31. Mr. Sterling further stressed, “it’s not just enough to allege the operative facts” to invoke the presumption, Basic says plaintiffs “have to plead and prove them” subject to rebuttal proof. Tr. at 32. Ultimately, he explained these operative facts are “just surrogates of whether it is reasonable to believe or to infer that the stock price was in fact distorted by the misrepresentation.”  Tr. at 33. In contrast to “circumstantial proof” of general market efficiency or the other operative facts, proof of no market impact is “direct proof” undermining “the whole premise of the Basic class-wide presumption of reliance.” According to Mr. Sterling, the lack of price movement “is the DNA proof” and “it makes no sense for district courts to be certifying class actions based upon this indirect or circumstantial proof while ignoring the direct proof of the absence of price impact.” Tr. at 35. Appealing to the Court’s conservative Justices, Mr. Sterling opined that “it would do violence to [the Court’s] admonition [in Stoneridge Investment Partners v. Scientific-Atlanta, 552 U.S. 148 (2008),] that the 10b cause of action ought not be further expanded to make [the] rebuttable presumption of reliance irrebuttable at the class certification stage.” Tr. at 35. 

In response to Justices Ginsburg’s and Kagan’s questions regarding what would be left to decide on the merits after the class certification inquiry, Mr. Sterling argues that “falsity, scienter, actual proof of loss causation and damages” would all be undetermined at class certification. Tr. at 37. Along the same lines, Justice Kagan expressed concern about permitting defendants to rebut the presumption by putting an expert on the stand, and then the “Basic presumption falls away, and the plaintiffs have to actually prove their case at the very early stage.” Tr. at 40. Mr. Sterling explained, however, that showing price impact is “not a hard burden to show”: plaintiffs needed only to show a statistically significant price movement in response to any one of the 22 alleged misstatements or one of the alleged corrective disclosures. Tr. at 40. 

Mr. Sterling also attempted to address the concern regarding an early hearing on merits issues by indicating that Rule 23 provides district courts with discretion to permit discovery into the merits to the extent such discovery is relevant to the class certification issue, noting that plaintiffs asked for no such discovery in the instant case. Tr. at 41-42. This response drew sharp questioning from the Chief Justice and Justice Scalia, who asked why defendants would want to move up discovery if the class certification stage is so significant because of its in terrorem effect. Mr. Sterling responded that the grant of class certification is indeed a “seminal event” with “huge repercussions for the defendant.” Tr. at 43. The Chief Justice further posited that if one of Halliburton’s objections to plaintiffs’ view is that “it would just postpone the defendant’s ability to rebut the presumption” and “result in countless classes being certified with the certain knowledge that they would have to be decertified later,” if it is so certain, why is there an in terrorem effect? Tr. at 43. Mr. Sterling aptly replied that the Chief Justice’s question assumed “that the defendant has the wherewithal to stick it out through it all, but the sheer grant of class certification which aggregates hundreds . . . tens of thousands of these claims together in one big case makes every one of these cases, in effect, a company case, and it puts huge settlement pressure on the defendant.” Tr. at 43. 

            Plaintiffs’ Rebuttal Argument

Mr. Boies’ rebuttal attacked Mr. Sterling’s recitation of plaintiffs’ burden of proof under the price movement test as overly simplistic. In this regard, he pointed to the fact that plaintiffs showed a 42% stock price drop in response to a Halliburton asbestos-related statement that plaintiffs’ alleged was a corrective disclosure, which, as defendants’ expert conceded, did not disclose any other unrelated information. Tr. at 46. Nevertheless, the Fifth Circuit held such a showing was not sufficient because the statement did not specifically reference the prior announcement it was alleged to have corrected and therefore that statement was not a corrective disclosure. Tr. at 47. According to Mr. Boies, the Fifth Circuit therefore looked at more than just price movement in rejecting class certification; it looked at merits issues. 

Key Takeaways

Predicting how the Supreme Court will rule in a case by reading the tea leaves from oral argument is no easy feat. Yet, a few observations can be gleaned from the argument:

1. The Supreme Court appears likely to overturn the aspects of Oscar that require plaintiffs to prove loss causation (as opposed to price impact) at the class certification stage. 

2. The fundamental issue to be decided by the court is whether defendants are permitted to rebut plaintiffs’ evidence of an efficient market solely with proof that generally disproves the efficiency of the market. Mr. Boies conceded that the sole basis for plaintiffs’ position that defendants’ proof is limited to such evidence is footnote 29 of Basic, which Justice Alito described as “thin” support since the footnote was dictum and Basic was “issued at a time when conditional class certification was permitted.” Tr. at 6. A number of other Justices also seemed to struggle with why the inquiry should be so limited when the lack of price movement itself may at least be an indicator of an inefficient market and, even more, may in fact be direct evidence that the fraud-on-the-market presumption does not apply. Yet the challenge for the Court, if it does not stand on Basic’s footnote 29, will be in drawing the line between what proof should and should not be considered at class certification. For example, as raised in Mr. Boies’s rebuttal, will plaintiffs have to prove that certain statements were in fact corrective disclosures or will it suffice to allege that a statement was a corrective disclosure?  

3. Finally, the Justices will have to determine whether on the record before it, they can apply their ruling to the instant case or whether they will remand it. If the court adopts plaintiffs’ more limited class certification inquiry, it appears the Court could reverse the Fifth Circuit and grant class certification given Halliburton’s concession that the market for its stock was efficient. If the Court, however, adopts a middle ground approach, it is likely to remand the case to the Fifth Circuit even if such a result may only be a “Pyrrhic victory,” as Justice Scalia suggests.  

No matter how the Court rules, the decision should have a significant impact on the large number securities class actions working their way through the courts. By determining whether class certification will give defendants a real opportunity to test plaintiffs’ claims that the class wide presumption of reliance should apply, the Court’s decision will determine whether class certification can be an important event for settlement and will provide defendants with an opportunity to bring an early appeal. The threat of a negative ruling on the merits at the class certification stage or of an early appeal provides companies, their directors and officers and their insurers with additional leverage and an incentive to “stick it out,” as Mr. Sterling suggested, if a motion to dismiss is denied. 

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Any list of the most important and influential Americans of the 20^th century would have to include William Brennan, whose 34-year tenure as an associate justice of the U.S. Supreme Court coincided with –and in many ways both reflected and influenced – a period of extraordinary change both in American society and in its jurisprudence. Liberal icon and lightening rod for conservative rancor, Brennan was at the center of many of the Court’s highest profile decisions.

In an authorized biography entitled "Justice Brennan: Liberal Champion," journalist Stephen Wermeil and attorney Seth Stern provide a balanced and thorough overview of Brennan’s long and extraordinary life. Because Wemiel had the opportunity to interview Brennan before his death in 1997 and because the authors had access to Brennan’s personal notes and files, the book provides significant insight into the Supreme Court’s inner workings.

The book explores Brennan’s early life, including his childhood and his years at Harvard Law School, where he took classes with Felix Frankfurter (with whom Brennan would later serve on the U.S. Supreme Court – Frankfurter did not remember Brennan, who had not been a particularly brilliant law student). The book also examines Brennan’s early career as a labor lawyer in Newark and then as a state court judge in New Jersey.

But the bulk of the book is devoted to Brennan’s years on the Supreme Court. Brennan was nominated for the Court by Republican President Dwight Eisenhower, though Brennan was a lifelong Democrat. With an eye on the 1956 presidential election, Eisenhower wanted to nominate a youthful Catholic, preferably one with state judicial experience. Few candidates met all of these criteria, so Brennan found himself on the Supreme Court at age 50, with only seven years of state trial and appellate court judicial experience. (Eisenhower is reported to have later regretted the nomination.)

Brennan would quickly become a key ally and working partner of Chief Justice Earl Warren, together exercising an expansive vision of judicial authority. The authors refer to Brennan’s collaborative relationship with Warren as "one of the most enduring friendships important alliances in the history of the Supreme Court," resulting, among other things in an historic and surprisingly enduring expansion of civil rights.

Brennan arrived after the Court’s landmark Brown v. Board of Education decision declaring "separate but equal" to be "inherently unequal." However, he soon became an indispensible part of the working majority on the court that operated with the view that for too long the Court had, in the name of judicial restraint, abdicated its responsibility to protect civil liberties.

Brennan himself developed an activist, results-oriented approach, first manifest in cases dealing with segregation and racial inequality, but soon extended to a host of other areas, including criminal procedure, privacy, voting rights and obscenity. Brennan would be in the majority in a wide range of controversial opinions, including those involving abortion, school prayer, busing and affirmative action.

As a result of these decisions, the Court attracted fierce criticisms that it was acting in the role of Platonic Guardian and operating as a "roving commission" to do justice as they conceived it, in the process trammeling majoritarian institutions.

The activist judicial approach of Brennan and his liberal colleagues on the Court triggered a strong political backlash. Barry Goldwater’s 1964 presidential campaign, as well as Richard Nixon’s campaign in 1968, was in many ways built around criticisms of the Court and its liberal agenda. As the Court’s membership changed in the 70’s and 80’s due to the conservatives political successes, Brennan found himself dissenting more frequently and sometimes isolated – but still able to influence colleagues and, to a certain extent, to protect decisions of the Warren Court era.

Though the biography is generally favorable, the portrait that emerges is relatively balanced. Brennan appears as a conscientious and effective jurist who, as a result of the strength of his personal charm, principles and intellect became, as the authors claim "one of the most influential justices of the 20^th century."

Brennan’s life story is well told in this detailed account, which not only examines his judicial career, but also his life off the court, including his marriage, his friendships, his religious life and even his finances. The book is filled with interesting insights and anecdotes, such as Brennan’s passionate opposition to the death penalty, and, on a more personal note, his marriage to his long-time secretary, Mary Fowler, just three months after the death of his first wife, Marjorie, to whom had had been married for nearly all of his adult life.

Along the way, the authors provide deep insight into how the Court works and how it has had such an extraordinary influence on so many aspects of American life and society.

Despite the many years of conservative majorities that followed Brennan’s tenure on the Court, a surprisingly large part of Brennan’s legacy remains intact. In areas such as civil rights, privacy, voting rights and criminal procedure, decisions that when first made were highly controversial remain the law of the land. It is perhaps fitting that in his confirmation hearing, David Souter, Brennan’s replacement on the Court, referred to Brennan as "one of the most fearlessly principled guardians the Constitution ever had."

I enjoyed reading this book and I have no hesitation recommending it. I will say that reading the book occasioned much thought and even concern as I reflected on Brennan’s brand of judicial activism. Though the Warren Court’s civil rights decisions were essential to removing deep racial injustices, the activist approach the Court employed led to other decisions about which it is difficult for me to feel quite as comfortable, even if just from an analytical point of view.

Moreover, an activist approach that finds rights and legal requirements without an explicit textual basis in the Constitution can be used for conservative as well as liberal purposes, as it might be argues subsequent courts have proven.

Reflecting on this afforded me a new appreciation for the merits of judicial restraint. In reading this book, I found it striking that after the first few years of the civil rights cases, Justices Hugo Black and John Marshal Harlan II, who had been important participants in many of the Warren Court’s early civil rights decisions, began pulling back and increasingly began refusing to follow the liberal majority. The book suggests the two justices (particularly Black) may have just been getting old. Perhaps I am getting old too, because I found myself appreciating their perspective.

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