In its long-awaited decision in Amgen Inc. v. Connecticut Retirement Plans & Trust Funds, No. 11-1085 (U.S. Feb. 27, 2013), the U.S. Supreme Court held that plaintiffs in a securities-fraud class action do not need to establish the materiality of alleged misrepresentations in seeking class certification.
Courts May Presume Marketwide Reliance Without Addressing Materiality to Certify a Securities Class
Securities-fraud claims under Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 require proof of six elements, including that plaintiffs relied on a material misrepresentation or omission. In Basic Inc. v. Levinson, 485 U.S. 224 (1988), the Supreme Court created a rebuttable presumption of reliance that applies to all members of a class if the named plaintiffs show that statements containing the alleged misrepresentations or omissions were publicly known and that the securities at issue traded in an efficient market.
In Amgen, the Supreme Court acknowledged that materiality is a predicate for application of the fraud-on-the-market theory, but held that securities-fraud plaintiffs can satisfy Federal Rule of Civil Procedure 23(b)(3)'s predominance requirement without first establishing materiality. Writing for the 6-3 majority, Justice Ginsburg reasoned that because materiality is determined based on an objective "reasonable investor" standard, it is not necessary to inquire whether each member of the proposed class found the misrepresentation or omission material, and that it is sufficient to determine whether a statement is material on the merits at the summary judgment or trial stage. Consistent with this determination, the Court also held that trial courts should not consider evidence intended to rebut a potential finding of materiality in deciding whether to apply the fraud-on-the-market presumption at the class certification stage.
The Court found it significant that materiality is an independent element of a securities-fraud claim that must eventually be established on the merits or else the entire claim will fail. In contrast, failure to prove the predicates of market efficiency and publicity at the class certification stage would merely preclude use of the rebuttable presumption of reliance, leaving members of the proposed class the option of seeking relief for their claims by individually proving reliance.
Four Justices Suggest Fraud-on-the-Market Theory Should Be Re-Evaluated
The majority's refusal to treat materiality like other fraud-on-the-market predicates drew sharp criticism from other members of the Court. As Justice Thomas pointed out in his dissent (joined in full by Justice Kennedy and in part by Justice Scalia), distinguishing materiality on grounds that it (as opposed to publicity and market efficiency) must be proven at a later "merits" stage of the proceedings is tantamount to admitting that the parties (and the court) will not know at the class certification stage whether reliance is an individual or common question. And if one does not know whether reliance is an individual or common question, any decision to certify (or not to certify) a class necessarily is subject to question.
The dissenting opinions of Justices Scalia and Thomas and the concurring opinion of Justice Alito also show that at least four members of the Court harbor skepticism about the validity of the fraud-on-the-market theory and are open to abandoning it. Justice Scalia observed that the Amgen majority "does not merely accept what some consider the regrettable consequences of the four-Justice opinion in Basic; it expands those consequences from the arguably regrettable to the unquestionably disastrous." Justice Alito was even more explicit in inviting a direct challenge to Basic, stating that "recent evidence suggest[ing] that the presumption may rest on a faulty economic premise" signals that "reconsideration of the Basic presumption may be appropriate."
A Pyrrhic Victory for Plaintiffs?
The Court's opinion in Amgen should be viewed as a pro-plaintiff decision as it forecloses a potential challenge to the certification of a Rule 23(b)(3) class in a securities-fraud action. However, to the extent the dissenting and concurring opinions foreshadow a possible abandonment by the Court of the fraud-on-the-market theory, the real winners may turn out to be corporate defendants who, if accused of engaging in securities fraud, would have a potent new weapon in their arsenal to defeat efforts to certify a class.