Will 'Fraud on the Market' Survive ?

Will 'Fraud on the Market' Survive ? Steve Heap

In each term of the U.S. Supreme Court, there are a few cases that have the potential to bring sweeping change to the established legal landscape. One of the marquee cases of the current term—at least for those interested in securities litigation—is Halliburton Co. v. Erica P. John Fund Inc., which has the potential to alter the lucrative world of securities fraud class actions in major ways.

The case, also known as Halliburton II (the first Halliburton case from 2011 involved loss causation in class actions) and slated for oral arguments March 5, may endanger the Supreme Court’s earlier ruling in the 1988 Basic v. Levinson, which legitimized the “fraud on the market” presumption. This rule states that an efficient market reflects all of the information shareholders need about a publicly traded company in order to make decisions—meaning that plaintiffs do not have to prove their reliance on misstatements by the company to bring the class action. The Basic decision allowed plaintiffs in securities fraud cases to establish classwide reliance far more easily than in the past.

Halliburton II is part of a continuing stream of cases that reflect the court’s interest in class action issues, both within securities and outside,” Nicholas Even, a partner at Haynes and Boone and the chair of the firm’s Securities and Shareholder Litigation Practice and coauthor of the firm’s annual review of securities litigation, told CorpCounsel.com.

The rise of the fraud on the market presumption has certainly spurred a high number of securities fraud class actions. An amicus brief submitted to the Supreme Court on Halliburton II by a group of law professors and former Securities and Exchange Commission officials—one of more than 20 amicus briefs offered in relation to the case—noted that between 1997 and 2012 more than 3,050 private class action securities fraud lawsuits were filed in the United States. The settlements yielded from that cohort added up to more than $73.1 billion, and included six of the 10 largest settlements in class action history.

With both companies and shareholders aware of what’s at stake, Halliburton II is attracting a lot of attention. The case itself is more than a decade old, and pits the energy company against the Erica P. John Fund, which provides financial support to the Catholic Archdiocese of Milwaukee. The John Fund claims to have been defrauded by Halliburton when the company misrepresented its finances to inflate its stock price.

Even said that the high court completely gutting the fraud on the market theory would be “one of the most extreme outcomes imaginable” and is unlikely. However, he explained that there’s a chance the court will issue a significant ruling on a related question: When in the litigation process should defendants be given the chance to refute the allegations against them based on the fraud on the market presumption?

For defendants, it’s a case of the earlier the better, said Even, explaining that defendants often lose leverage to settle cases for a lower sum total after the class certification stage is over.

If the market presumption goes down in flames, though, Even doesn’t think it’s smart for in-house counsel to let their guard down, simply because “the securities plaintiffs bar is nothing if not creative.”

“I would not advise in-house counsel and public companies to get overly optimistic that even a reversal or an abolishment of the fraud on market presumption would end potential securities class action risk,” he said.

There are still avenues that plaintiffs attorneys can take to push their securities fraud claims through the courts without the fraud on the market presumption, according to Even. For example, he pointed out, there is the “Affiliated Ute presumption,” named after a 1972 Supreme Court case, which allows plaintiffs to bypass normal rules for proving reliance, if the suit involves allegations that the defendant fraudulently withheld information from shareholders. “The presumption of reliance in the case of omissions doesn’t rely on the fraud on the market theory,” Even said.

A ruling from the Supreme Court on Halliburton II is expected before the end of June 2014.

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