Last week, the Ninth Circuit Court of Appeals affirmed the dismissal of a lawsuit filed pursuant to Section 11 of the Securities Act of 1933 (the "1933 Act"). Section 11 provides for claims involving false or misleading statements made in securities offerings. Though more limited in scope than Section 10(b)/Rule 10b-5 claims for securities fraud, Section 11 plaintiffs – at least until now – have faced far lower pleading thresholds. Through a strict application of the Twombly/Iqbal pleading requirements, the Ninth Circuit has now made it "often impossible" for many Section 11 plaintiffs to surpass the pleading stage.
In In re Century Aluminum Company Securities Litigation, __ F.3d __ (9th Cir. Jan. 2, 2013), the plaintiffs purchased shares of common stock in defendant Century Aluminum Company around the time of a secondary offering of 24.5 million shares. Prior to the secondary offering, there were already 49 million shares in the market. The plaintiffs alleged that there were various false statements in the registration statement issued in connection with the secondary offering. Plaintiffs filed claims under Section 11 of the 1933 Act, which provides a cause of action to any person who buys a security issued under a materially false or misleading registration statement. It is well-established that purchasers can bring Section 11 claims if they bought the security in either the particular offering, or the aftermarket if they can trace the shares back to the offering.
"Aftermarket" standing is a frequent issue when a company has issued shares in multiple offerings. Indeed, the Ninth Circuit emphasized that aftermarket plaintiffs would have to allege that the shares they purchased came from the pool of shares issued in the secondary offering (either directly or through tracing) rather than the pool of previously existing shares. The plaintiffs admitted that they had purchased the shares in the aftermarket at a price different from the secondary offering price, and therefore alleged that they had "purchased common stock directly traceable to the offering."
The case is notable for its strict application of the pleading requirements set forth in Twombly and Iqbal, in which the U.S. Supreme Court abolished notice pleading in favor of "plausibility" pleading – that is, the complaint must now allege "factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." The Ninth Circuit found that none of the plaintiffs' allegations satisfied this standard, and affirmed dismissal of the Section 11 claims. The court disregarded the general allegation that plaintiffs "purchased common stock directly traceable to the offering" given its lack of factual specificity and the equally (perhaps even more) plausible inference that the shares came from the larger pool of 49 million originally offered shares versus the later 24.5 million shares.
The court acknowledged that it would be "often impossible" for aftermarket plaintiffs to bring Section 11 claims because of the circumstances generally surrounding aftermarket transactions – that is, trading is typically done through brokers that do not specify the source of shares contained within their block positions. And the Ninth Circuit's approach does not allow plaintiffs to attempt to establish such traceability in discovery – without the ability to plead it with factual specificity, their claims are subject to outright dismissal.
The court also rejected the plaintiffs' attempts to make more specific allegations of tracing in light of these general aftermarket features. For example, one plaintiff alleged that he had directed his broker to purchase shares in the secondary offering. Nonetheless, the court found that it was equally possible that the broker filled the order with shares that it had been holding from the original offering. In other words, the plaintiff would have to allege (without the benefit of discovery) that the broker "held only shares issued in the secondary offering" (emphasis in original). Other plaintiffs also alleged that they purchased shares just days after the offering, and on days when trading volume was particularly high given underwriters' disposition of large amounts of shares that they had just purchased in the offering. Even these circumstantial allegations "remain stuck in neutral territory" between the two offerings, and were thus deemed insufficient under Twombly/Iqbal.
The Ninth Circuit's decision is not universally accepted. Indeed, recent district court decisions outside of the Ninth Circuit (e.g. New York, Maryland) have expressly held that even general allegations of "tracing" satisfy the Twombly/Iqbal pleading requirements. It remains to be seen whether a circuit split will develop over this disposal