During the current term, the Supreme Court heard or will hear a number of cases bearing on a plaintiff’s ability to successfully bring and maintain federal class action lawsuits. In Oxford Health Plans v. Sutter, 133 S. Ct. 786 (2012), and American Express v. Italian Colors Restaurant, 133 S. Ct. 594 (2012), the parties have raised issues regarding the availability of class procedures for parties to commercial and/or consumer contracts that provide for mandatory arbitration.1 Amgen v. Connecticut Retirement Plans & Trust Funds, 132 S. Ct. 2742 (2012), and Comcast v. Behrend, 133 S. Ct. 24 (2012), raise issues regarding the extent to which a district court must consider the merits of class action plaintiffs’ claims at the class certification stage.
As the authors have previously commented, the decisions in these cases have the potential to continue a trend developed over the past few years that has made it more difficult for plaintiffs to commence or maintain class actions.2 On Feb. 27, 2013, the Supreme Court issued the first of these anticipated opinions in Amgen v. Connecticut Ret. Plan & Trust Funds, 133 S. Ct. 1184 (2013).
In Amgen, the court was presented with the question of whether a federal securities class action plaintiff who invokes the fraud-on-the-market theory of reliance must prove the "materiality" of the defendant’s alleged misrepresentations at the class certification stage. In a 6-3 decision, the court held that proof of materiality "is not a prerequisite to class certification" in securities fraud cases. Id. at *4.3
While Amgen thus permitted the plaintiff class to be certified without proof of materiality, the decision may not signal a broader retreat from the court’s recent jurisprudence in this area. The decision appears to turn on issues unique to federal securities class actions and may have little application to class action issues outside that arena. Nonetheless, for the securities plaintiffs’ and defense bars, the decision is significant. It permits plaintiffs, without proving an essential component underlying the fraud-on-the-market theory, to obtain class certification, and with it the ability to impose on the defendants substantial discovery costs, the threat of a large judgment, and consequent increased pressure to settle.
In 2007, investor-plaintiffs brought suit against Amgen Inc. and several of its officers alleging that the company made false and misleading statements about two of its anti-anemia drugs in violation of Section 10(b) of the Securities Exchange Act of 1934 (and Rule 10b-5 promulgated thereunder), which "artificially inflated the price of Amgen’s stock." Amgen, 2013 WL 691001, at *6. At the class certification stage, the plaintiffs invoked the fraud-on-the-market presumption of reliance established in Basic v. Levinson, 485 U.S. 224 (1987). In Basic, the court found that, in an efficient market, publicly available information is reflected in a security’s market price, and therefore an investor’s reliance on any "public material misrepresentations…may be presumed…." Id. at 247 (emphasis added).4
Relying heavily on the Supreme Court’s recent opinion in Wal-Mart Stores v. Dukes, 131 S. Ct. 2541 (2011), Amgen argued that the plaintiffs had to prove the prerequisites to invoking the fraud-on-the-market presumption (including materiality) at the class certification stage, even though that inquiry required the court to delve into the merits of the plaintiffs’ Section 10(b) claims.5 Amgen argued that plaintiffs could not demonstrate that the company’s alleged misstatements were material, and therefore, the plaintiffs were not entitled to the fraud-on-the-market presumption of reliance. See Amgen, 2013 WL 691001, at *10. As a result, Amgen claimed that plaintiffs could not satisfy Federal Rule of Civil Procedure (FRCP) 23(b)’s requirement that "questions of law or fact common to class members predominate over any questions affecting only individual members."
The district court rejected Amgen’s argument that proof of materiality was a prerequisite to class certification and certified the proposed class. Connecticut Ret. Plans & Trust Funds v. Amgen, 660 F.3d 1170, 1173-74 (9th Cir. 2011). On interlocutory appeal, the U.S. Court of Appeals for the Ninth Circuit affirmed, finding that "a plaintiff need not prove materiality at the class certification stage to invoke the [fraud-on-the-market] presumption; materiality is a merits issue to be reached at trial or by summary judgment motion if the facts are uncontested." Id. at 1177. Amgen petitioned the Supreme Court for a writ of certiorari, which was granted "to resolve a conflict among the Courts of Appeals over whether district courts must require plaintiffs to prove, and must allow defendants to present evidence rebutting, the element of materiality before certifying a class action under §10(b) and Rule 10b–5." Amgen, 2013 WL 691001, at *7.
Supreme Court’s Decision
Justice Ruth Bader Ginsburg’s majority opinion identified "the pivotal inquiry" to be "whether proof of materiality is needed to ensure that the questions of law or fact common to the class will ‘predominate over any questions affecting only individual members’ as the litigation progresses." Amgen, 2013 WL 691001, at *8 (quoting Fed. R. Civ. P. 23(b)(3)) (emphasis in original). The court stated that "the answer to this question is clearly ‘no’" and provided two justifications. Id. at *8.
First, the court reasoned that because the materiality determination is "’an objective one, involving the significance of an omitted or misrepresented fact to a reasonable investor…[it] can be proved through evidence common to the class.’" Id. (citation omitted). In other words, since any plaintiff’s subjective view of the importance of the information in question is irrelevant, the court’s determination of whether the alleged statements are material will by necessity apply to the entire class. Thus, the materiality of the statements at issue is a "common question" for the purposes of FRCP 23(b)(3). Id.
Second, the court found that there was no risk that a failure of proof on the question of materiality would result in individual questions predominating over those affecting the class. Rather, if the plaintiffs ultimately failed to prove materiality, their claims would fail in their entirety and there would be no issues remaining, let alone issues regarding individual reliance. See id. ("A failure of proof on the common question of materiality ends the litigation and thus will never cause individual questions of reliance or anything else to overwhelm questions common to the class") (emphasis in original).
The court also considered and rejected the public policy concerns raised by Amgen regarding the "substantial pressure" that the grant of class certification imposes on defendants in securities class actions that could cause "a defendant ‘to settle rather than…run the risk of potentially ruinous liability.’" Id. at *12 (citation omitted). First, the court noted that an argument requiring proof of materiality at class certification to avoid the risk of in terrorem settlements could equally apply to other essential elements of a Rule 10b-5 claim (e.g., that plaintiffs’ claims must be based on false or misleading statements or that alleged misstatements caused economic loss), but the court had previously held that those elements need not be adjudicated before a class is certified. See id.
Next, the court found that Congress had considered the issue of extortionate settlements in advance of the enactment and amendment of the Private Securities Litigation Reform Act of 1995, Pub. L. No. 104-67, 109 Stat. 737 (1995), but did not include in that legislation a requirement that materiality be proved as a prerequisite to class certification. See id. ("Because Congress has homed in on the precise policy concerns raised in Amgen’s brief, ‘we do not think it appropriate for the judiciary to make its own further adjustments by reinterpreting Rule 23 to make likely success on the merits essential to class certification in securities-fraud suits’") (citation omitted)).
Amgen is accompanied by two dissenting opinions. Justice Clarence Thomas’ principal dissent, which Justice Anthony Kennedy joined and Justice Antonin Scalia joined in part, asserts, relying on Dukes, that "if a plaintiff wishes to use Basic’s presumption to prove that reliance is a common question, he must establish the entire presumption, including materiality, at the class certification stage." Amgen, 2013 WL 691001, at *22 (Thomas, J., dissenting). Scalia’s separate dissent similarly asserts that: "[a]ll of the elements of [the fraud-on-the-market] rule, including materiality, must be established if and when it is relied upon to justify certification." Id. at *16 (Scalia, J., dissenting).
Scalia’s dissent also observed the enormous implications that a decision granting class certification can have on a class action, noting that "[c]ertification of the class is often, if not usually, the prelude to a substantial settlement by the defendant because the costs and risks of litigating are so high." Id. at *17. In light of these implications, Scalia criticized the majority for expanding the consequences of the Basic decision "from the arguably regrettable to the unquestionably disastrous." Id. at *18.6
While corporate defendants are unlikely to be pleased by Amgen’s holding that securities fraud plaintiffs are not required to prove the materiality of alleged misrepresentations at the class certification stage, there is reason to believe that Amgen does not presage a reversal of the court’s recent tightening of class certification standards. As the court held, the materiality required to invoke the fraud-on-the-market presumption of reliance in securities fraud cases is an "objective" determination; if it cannot be proved, all plaintiffs’ claims will fail. Thus, there is no prospect that individual questions of materiality could predominate over those affecting the class. This distinguishes Amgen from the other recently decided class certification case, Comcast v. Behrend, where the Supreme Court determined that plaintiffs had failed to establish a common methodology for awarding damages on a classwide basis.
Additionally, the fact that at least four justices (the dissenting justices and Justice Samuel Alito) are questioning the continued viability of Basic’s 25 year-old fraud-on-the-market presumption is very significant. Without that presumption, it would be substantially more difficult for securities fraud plaintiffs to establish that "common questions" predominate on the issue of reliance, and therefore much more difficult (if not impossible) for plaintiffs to obtain class certification in securities cases.
Jason M. Halper is a partner and Ryan J. Andreoli is special counsel in the litigation department of Cadwalader, Wickersham & Taft. William J. Foley and Joseph P. Mueller, litigation associates at the firm, assisted with the preparation of this article.
1. Oral argument occurred on Feb. 27, 2013 in the American Express case and on March 25, 2013, in the Oxford Health Plans case.
2. See Jason M. Halper and Ryan J. Andreoli, "Arbitration Clauses and Class Certification Standards: How the Supreme Court Is Limiting Plaintiffs’ Ability to Maintain Class Actions," Bloomberg BNA: Class Action Litig. Rep., 14 CLASS 87 (Jan. 25, 2013).
3. Justices Stephen Breyer, Samuel Alito, Sonia Sotomayor, Elena Kagan and Chief Justice John Roberts joined Ginsburg’s majority opinion, from which Scalia, Kennedy and Thomas dissented.
4. The fraud-on-the-market doctrine "has particular significance in securities-fraud class actions. Absent the fraud-on-the-market theory, the requirement that Rule 10b–5 plaintiffs establish reliance would ordinarily preclude certification of a class action seeking money damages because individual reliance issues would overwhelm questions common to the class." Amgen, 2013 WL 691001, at *5. The doctrine solves this problem by "recognizing a rebuttable presumption of classwide reliance on public, material misrepresentations when shares are traded in an efficient market." Id.
5. Dukes was an employment discrimination action brought by female employees of Wal-Mart who alleged that the company violated Title VII of the Civil Rights Act of 1964 by paying female employees less and promoting women less frequently than their male counterparts. In denying class certification, the Dukes court conducted a "rigorous analysis" of plaintiffs’ evidence of a common pattern or practice of discrimination because such an analysis was, in addition to being relevant to the merits of plaintiffs’ Title VII discrimination claims, also necessary to assess "commonality" under Rule 23(a). See Dukes, 131 S. Ct. at 2552. The court ultimately found that plaintiffs had failed to provide "convincing proof of a companywide discriminatory pay and promotion policy," and thus had failed to establish the existence of a common question of law or fact under Rule 23(a). Id. at 2556-57.
6. Significantly, both Thomas (in his dissent) and Alito (in his one-page concurrence) questioned the continuing vitality of the Basic fraud-on-the-market presumption of reliance. Alito stated that "recent evidence suggests that the [fraud-on-the-market] presumption may rest on a faulty economic premise" and that "reconsideration of the Basic presumption may be appropriate." Id. at *16 (Alito, J., concurring). Thomas likewise criticized the Basic decision as "questionable," but indicated that the court had not been "asked to revisit Basic’s fraud-on-the-market presumption" in Amgen. Id. at *19 n.4 (Thomas, J., dissenting).