In a decision that has important implications for both plaintiffs and defendants in securities class actions, the Supreme Court of the United States in Halliburton Co. v. Erica P. John Fund, Inc. (Halliburton II), No. 13-317 (June 23, 2014), refused to overturn the fraud-on-the-market presumption first announced in Basic Inc. v. Levinson, 485 U.S. 224 (1987), but recognized that defendants can rebut that presumption at the class certification stage by showing a lack of “price impact.”
The fraud-on-the-market presumption entitles plaintiffs in a securities class action to a rebuttable presumption of reliance on statements by defendants that plaintiffs claim are false or misleading if plaintiffs can prove, inter alia, that the market for the defendants’ securities was an efficient one, i.e., that the securities’ market price reflected all publicly-available information. Basic, 485 U.S. at 246-47. The continued viability of the fraud-on-the-market presumption means that plaintiffs will be able to continue bringing large securities fraud suits against companies without having to prove individual reliance by investors, a requirement that would have made it much more difficult for plaintiffs to prosecute securities fraud class actions. The Court’s ruling on price impact, however, gives defendants a way to rebut the presumption of reliance and potentially defeat class certification by showing that, even in an efficient market, the alleged misrepresentations did not actually affect the price of the security.
In Halliburton II, plaintiffs brought claims against Halliburton and one of its executives under Section 10(b) of the Securities Exchange Act of 1934, claiming they made false and misleading statements designed to artificially inflate the price of Halliburton’s stock. Slip Op. at 2. Defendants urged the Court to overturn Basic, arguing that it contravened Congress’s intent in enacting the Securities Exchange Act of 1934, and that economic research since Basic has undermined the efficient market theory. The Court rejected defendants’ characterization of Congressional intent, noting that after more than twenty years and two high-profile piece of legislation—the Private Securities Litigation Reform Act of 1995 and Securities Litigation Uniform Standards Act of 1997—Congress has still not overturned Basic. Id. at 7-8, 15. The Court also rejected defendants’ argument that the efficient market theory has been debunked, holding that Basic was not premised on any particular economic theory but on the common-sense precept that public information usually affects stock prices. Id. at 8-12.
In the alternative, defendants argued that plaintiffs should have to prove price impact in order to obtain class certification. The Court rejected this approach too, reasoning that the first requirement of the fraud-on-the market presumption—market efficiency—is a proxy for price impact, and that additional proof should not be required of plaintiffs. Id. at 16-18.
Finally, defendants argued that they should be permitted to rebut the Basic presumption with evidence showing a lack of price impact. The Court agreed. Id. at 18-22. If defendants can show that the alleged misstatements did not cause an increase in the price of the security, the Court held, plaintiffs should not be entitled to the class-wide presumption of reliance under Basic. Id. The Court acknowledged that defendants can show a lack of price impact through “event studies,” a kind of statistical analysis that used to determine the effect of a particular piece of news on the price of a security. Id.
The Court’s decision in Halliburton II resolved a circuit split among the Fifth and the Seventh Circuits on one side, holding that defendants cannot rebut the Basic presumption with price impact evidence, Schleicher v. Wendt, 618 F.3d 679, 685 (7th Cir. 2010); Erica P. John Fund, Inc. v. Halliburton Co., 718 F.3d 423, 435 (5th Cir. 2013), and the Second and Third Circuits on the other side, holding that defendants can rebut the presumption with price impact evidence, In re Salomon Analyst Metromedia Litig.,544 F.3d 474, 483-84 (2d Cir. 2008); In re DVI, Inc. Sec. Litig., 639 F.3d 623, 638 (3d Cir. 2011). Although the Court did not specifically reference Salomon or DVI in the Opinion, their holdings (and progeny) appear to have survived Halliburton II; as such, they will provide a framework for applying the rule announced in Halliburton II going forward.
Halliburton II was decided against the backdrop of two recent cases that significantly lowered the bar for class certification in securities fraud actions, Erica P. John Fund, Inc. v. Halliburton Co. (Halliburton I), 131 S. Ct. 2179 (2011), and Amgen Inc. v. Connecticut Ret. Plans & Trust Funds, 133 S. Ct. 1184 (2013). In Halliburton I, the Court held that plaintiffs in a securities fraud action need not prove loss causation in order to obtain class certification. 131 S. Ct. at 2187. In Amgen, the Court held that at the class certification stage plaintiffs need not prove materiality and defendants may not introduce evidence demonstrating a lack of materiality. 133 S. Ct. at 1196-98, 1203-04. While Halliburton II preserves plaintiffs’ ability to bring class actions in the same manner they have for the last twenty years, it provides Defendants with a potentially potent weapon with which to defend against class certification.
Dechert filed an amicus brief in the Supreme Court on behalf of the U.S. Chamber of Commerce, the National Association of Manufacturers, PhRMA, and the Business Roundtable.