The Supreme Court of the United States has announced it will hear the appeal in Amgen Inc. v. Connecticut Retirement Plans and Trust Funds, setting the stage for an important clarification of the use of the “fraud-on-the-market” reliance presumption in U.S. securities class actions. The Court first set out the presumption in its 1988 landmark decision in Basic Inc. v. Levinson, 485 U.S. 224 (1988). The Amgen decision will have an impact in Canada, where courts have grappled with the question of reliance in such cases. Generally, Canadian courts have been sceptical about importing a “fraud-on-the-market” approach, but recent case law has created some ambiguity about what evidence is necessary to prove reliance in common law misrepresentation claims. The Amgen appeal decision may help focus key aspects of that debate.
Any securities class action is ultimately premised on the idea that a material misrepresentation caused a loss to plaintiffs who relied upon it in deciding to trade on the securities market. Statutory causes of action, including those under Part XXIII of the Ontario Securities Act, may exist without regard to individual reliance, but a common law negligent misrepresentation claim in Canada is inherently linked to the notion of reliance, which must be considered both at the duty of care stage – asking whether reliance was foreseeable and would have been reasonable – and in assessing whether there was, in fact, reliance on the misrepresentation in question that caused the loss. As the Supreme Court of Canada noted in Hercules Managements, reliance is engaged from the very first step of analysis: it is the very “reliance by the plaintiff on the defendant’s words” that creates the necessary relationship of proximity that permits a duty of care to exist. In its recent decision in Sharbern Holding, the Supreme Court of Canada again re-affirmed the need for actual reliance, and clarified that this requirement cannot be waived by deemed reliance pursuant to a statute.
In the United States, claims under the Securities Exchange Act of 1934 and the SEC’s Rule 10b-5 also require the plaintiffs to demonstrate reliance on the allegedly untrue statement or material omission. Given that common issues must predominate over individual issues, class action certification in a securities case will therefore require a finding that the element of reliance is common to the class. In Basic Inc., the U.S. Supreme Court found that it was appropriate to adopt a rebuttable presumption of reliance in such cases, given the difficulties for plaintiff investors to otherwise prove individual reliance. The Court found that the presumption is appropriate given the nature of modern securities trading:
The modern securities markets, literally involving millions of shares changing hands daily, differ from the face-to-face transactions contemplated by early fraud cases, and our understanding of Rule 10b-5’s reliance requirement must encompass these differences.
The Court thereby relieved the plaintiff of an “unnecessarily unrealistic evidentiary burden.” Instead of having to demonstrate individual reliance, the plaintiff could rely on the presumption that, if the relevant security traded in an efficient market, its market price would reflect all publicly available information, including any misrepresentations. Instead of proving that he or she relied on the misrepresentation, the plaintiff can effectively benefit from the market as a whole having relied on it in determining the share price.
Nearly twenty-five years later, Amgen provides the Court with an opportunity to reconsider two aspects of the “fraud-on-the-market” presumption and how it operates in the class action context. First, the Court will determine whether or not the plaintiffs must demonstrate at the certification stage that the alleged misrepresentation is material before permitting certification on the basis of the “fraud-on-the-market” theory. Second, the Court will consider whether defendants should be permitted to lead evidence rebutting the applicability of the presumption at the certification stage, or whether this effectively amounts to an assessment of the merits of the plaintiffs’ claim.
Amgen Inc. is a pharmaceutical company. The plaintiff, Connecticut Retirement Plans and Trust Funds (“Connecticut Retirement”), claims Amgen made certain misrepresentations about its products. It alleges that Amgen’s share price was artificially inflated by these alleged misstatements and that, when disclosure was ultimately made, the drop in share price caused Connecticut Retirement significant losses. The district court certified the class action, in part on the basis that reliance was a common issue by operation of the “fraud-on-the-market” presumption. Amgen had conceded that the market in which its shares traded was an efficient one, but argued that the truth that the plaintiff claimed had been concealed by the misrepresentations had in fact already entered the market at the relevant time. The district court refused to permit Amgen to lead evidence on this argument (sometimes referred to as the “truth-on-the-market” defence), finding that it was an issue for trial. Amgen also argued that the plaintiffs had failed to prove the materiality of the alleged misrepresentation, but the district court found that the plaintiffs merely had to allege materiality rather than prove it in order to engage the presumption.
On appeal, the United States Court of Appeals for the Ninth Circuit affirmed the decision and enthusiastically endorsed a sweeping interpretation of the “fraud-on-the-market” presumption. On the question of what the plaintiff must show about the materiality of the alleged misrepresentation, the Court found that plaintiffs need only “allege materiality with sufficient plausibility” in order to get the benefit of the presumption of reliance. The Court found that Amgen’s argument that the alleged misrepresentation was immaterial was effectively an argument on the merits. If it were true, none of the plaintiffs would have a claim and therefore it did not affect whether certification was appropriate. In effect, the Court found that Amgen’s claim of immateriality was too good to be true at the certification stage and should be left for trial.
On the question of whether Amgen should have been permitted to lead evidence to support a “truth-on-the-market” defence, the Court affirmed the district court’s decision to deny it this opportunity. The Court of Appeals found that this was simply another way to consider an argument about the materiality (or lack thereof) of the alleged misrepresentations, and that materiality is a merits issue best left for trial or a summary judgment motion.
The Court of Appeals for the Ninth Circuit’s approach in Amgen has left only a very narrow window for defendants in that circuit seeking to rebut the “fraud-on-the-market” presumption. Defendants are permitted to argue that the market is not an efficient one, or to argue that the alleged misrepresentations were not publicly made, but are otherwise unable to lead any evidence to suggest that the market price was not affected because the alleged misrepresentations were insignificant or already known to the market. This interpretation deprives defendants of any opportunity at the certification stage to demonstrate that the alleged misrepresentations had no effect on the market price because the market was indifferent to them. This would seem to have proven Justice White correct in his dissent in Basic, where he noted that while rebutting “fraud-on-the-market” was possible in theory, “such rebuttal is virtually impossible in all but the most extraordinary case.”
In Amgen, the Supreme Court accepted two issues for review:
- whether proof of materiality is necessary before the “fraud-on-the-market” presumption is engaged as the basis for certification of a class action; and
- whether the defendant must be given an opportunity to rebut the presumption’s applicability on the facts of the case.
Each of these will give the Supreme Court an opportunity to address whether the approach taken in the Ninth Circuit appropriately considers the interests of defendants who have an argument, on the facts, that the alleged misrepresentation likely had no impact whatsoever on the share price. Given that share prices rise and fall for a variety of reasons, where defendants have compelling evidence about the immateriality of the alleged misrepresentation, it would seem appropriate to allow them the opportunity to lead it before the court decides whether a class action should be certified. Circuit courts presently fall into two distinct camps on these questions, with three circuits now clearly invoking the “fraud-on-the-market” presumption without any requirement that materiality have been proven.
The Amgen appeal will be watched closely in Canada. While Canadian courts have been sceptical of “fraud-on-the-market” either as a proper legal or factual presumption, there is nevertheless some ambiguity about its proper place in misrepresentation claims. In Carom v. Bre-X, Justice Winkler (as he then was) provided a thoughtful rejection of “fraud-on-the-market” as a legal or factual presumption that should apply in Canadian common law claims of fraudulent or negligent misrepresentation. Notwithstanding Carom, however, some courts have suggested it may be possible to find, on the particular facts of a case, that an “efficient market” operated in relation to the specific alleged misstatements at issue and that reliance by many plaintiffs could be inferred without evidence of individual reliance.
Given the Supreme Court of Canada’s re-affirmation in Sharbern Holding of the need for “actual reliance” in common law misrepresentation claims, it will be interesting to see how lower courts apply this requirement in proposed securities class actions. Two recent developments suggest the implications of Sharbern are being felt.
In February, Leitch J. granted leave to appeal the decision in Arctic Glacier, in which the court had dismissed a defence motion to strike a pleading of negligent misrepresentation that failed to specifically plead detrimental reliance by individual plaintiffs. In part, the motions judge had relied on cases taking a relaxed approach to the reliance requirement at the certification stage and suggesting that reliance may be inferred on the facts. Leitch J. found that Sharbern “creates a correctness and conflict issue…which would benefit from appellate review.”
Similarly, in a decision released yesterday, Strathy J. dismissed an attempt to certify detrimental reliance as a proposed common issue in Green v. Canadian Imperial Bank of Commerce, finding that Sharbern “has re-affirmed the need to establish reliance in a common law misrepresentation claim” and that the issue was not capable of resolution on a common basis. His Honour noted that “there is no authority to support the proposition that “fraud on the market” or the “efficient market” theory can supplant the need to prove individual reliance.”
These recent cases suggest that courts in Ontario may be abandoning earlier attempts to create a distinction between a “legal” and “factual” presumption of reliance in such cases. This distinction was always tenuous, given that either formulation of the presumption depends on accepting that an efficient market hypothesis should drive not only judicial decision-making, but the very elements of the tort in question. While the Canadian discussion about the proper place of market price theories in class action certification is ongoing, we can expect that protagonists on this side of the border will be listening carefully when the U.S. Supreme Court releases its decision in Amgen.
Amgen Inc. v. Connecticut Retirement Plans and Trust Funds
U.S. Supreme Court Docket: 11-1085
Petition for a writ of certiorari granted: June 11, 2012