Supreme Court Eases Conditions For Filing Securities Class-Action Suit

A recent U.S. Supreme Court decision moved the ball just a little bit in favor of easing the conditions for bringing a class-action lawsuit alleging securities fraud.

Industry lawyers say the court did so by establishing, for the first time, a national standard which says shareholders of a public company can sue a company for securities fraud without first proving they lost money through the company’s actions.

In the suit, Erica P. John Fund v. Halliburton, plaintiffs alleged securities-fraud violations, including falsified earnings reports, playing down estimates of liability from damage caused by exposure to asbestos, and inflating the benefits of a merger during the 1999-2001 period, when former Vice President Dick Cheney served as chairman and CEO.

The district court found that the suit could not proceed as a class action because 5th Circuit precedent required securities-fraud plaintiffs to prove “loss causation”—that the defendant’s deceptive conduct caused the investors’ claimed economic loss—in order to obtain class certification.

The district court concluded that Erica P. John Fund had failed to satisfy that requirement, with the 5th Circuit agreeing by affirming the denial of class certification.

In the Supreme Court decision, though, Chief Justice John Roberts says that in order to certify a class under Rule 23(b)(3), a court must find “that the questions of law or fact common to class members predominate over any questions affecting only individual members and that a class action is superior to other available methods for fairly and efficiently adjudicating the controversy.”

Roberts says the court established the “fraud of market” criteria in Basic Inc. v. Levinson.

David Elliott, chairman of the shareholder and securities litigation practice at Day Pitney, in Hartford, Conn., says, “The Basic precedent says that the plaintiff can rely on the fraud-on-the-market theory at the class-certification stage.”

He explains, “The fraud-on-the-market theory holds that the market price reflects all publicly available information including, therefore, any material misrepresentations.”

Michael Young, chairman of New York-based Willkie Farr & Gallagher LLP’s securities-litigation and enforcement practice group, says the unanimous Supreme Court decision only changes precedent in the 5th U.S. Circuit Court of Appeals, where the suit was brought.

Elliott adds that the decision brings the 5th circuit rule in line with those of the 2nd U.S. Circuit Court of Appeals and the 3rd U.S. Circuit of Appeals.

Elliott also notes that district courts in other circuits had relied on 5th Circuit precedent.

“It now becomes the law of the land,” Elliott says.

Young says the decision does not bar courts from using rejection tools to throw out a lawsuit further along in the process, for example, in acting on a motion to dismiss or in granting summary judgment.

“All other options for dismissing a lawsuit during the litigation process remain,” Young says.

Elliott agrees. He says the Supreme Court decision left open the possibility for companies to justify their actions at other phases in the legal process.

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