On November 10, 2011, in Brown v. Calamos, the U.S. Court of Appeals for the Seventh Circuit affirmed the dismissal with prejudice of a suit brought on behalf of a putative class of common shareholders of Calamos Convertible Opportunities and Income Fund against the fund’s investment adviser, Calamos Advisors LLC, and the members of the fund’s Board of Trustees, alleging breach of fiduciary duty in connection with the fund’s redemption of its auction-market preferred stock (“AMPS”) from preferred shareholders amidst the 2008 financial crises and collapse of the auction markets. The complaint generally alleged that the defendants breached their fiduciary obligations under state law to the fund’s common shareholders by improperly redeeming the then-illiquid AMPS on terms unfavorable to the common shareholders, as the fund borrowed money with higher interest rates and shorter terms to repay AMPS owners despite the absence of a maturity date or any redemption rights on these instruments. The complaint contended that the defendants caused the fund to incur greater expenses and risk in redeeming AMPS solely to placate brokerage firms that could offer distribution conduits for other Calamos-sponsored products. Presumably seeking to avoid preemption under the Securities Litigation Uniform Standards Act of 1998 (“SLUSA”), the complaint included a disclaimer stating that the plaintiff asserted no securities fraud claims, but only state law claims for breach of fiduciary duty. SLUSA prohibits securities class actions if, among other things, the suit is brought by “any private party alleging a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security” (a security traded nationally and listed on a regulated national exchange). The defendants removed the action to federal court under SLUSA and moved to dismiss. The district court held that the complaint alleged “the misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security” and thus was barred by SLUSA.

In upholding the district court’s handling of the suit, the Seventh Circuit highlighted the disparate approaches among the circuit courts of when an action is removable to federal court under SLUSA and whether a district court may dismiss an action prohibited by SLUSA with prejudice, or whether it must remand the action to provide the plaintiff with an opportunity to amend the complaint. Rather than endorsing a particular approach, the Seventh Circuit held that the plaintiff’s suit was barred “under any reasonable standard” because the allegation of fraud would be “difficult and maybe impossible to disentangle from the charge of breach of duty of loyalty” that the defendants owed to the common shareholders. The complaint’s disclaimer of fraud claims “cannot save it” since the allegations regarding fiduciary obligations were dependent on an allegation of fraud. The Seventh Circuit interpreted a passage in the complaint—“the Fund’s public statements indicated that the holders of its common stock could realize, as one of the significant benefits of this investment, leverage that would continue indefinitely, because… the term of the AMPS was perpetual”—as alleging a misrepresentation. In addition, the Seventh Circuit found an implicit allegation of a misleading omission of a conflict of interest: the omission to state that the fund might at any time redeem AMPS on terms unfavorable to the common shareholders because motivated by broader concerns of the entire Calamos fund family.

In support of the “severe” sanction of dismissal with prejudice, the Seventh Circuit warned that “a lawyer who files a securities suit should know about SLUSA and ought to be able to control the impulse to embellish his securities suit with a charge of fraud.” Moreover, if the motion was dismissed without prejudice, to permit an amended complaint without allegations of fraud, the state court might permit the reinsertion of fraud allegations later in the course of litigation, warranting yet another removal and motion to dismiss in federal court. This approach would, in the Seventh Circuit’s view, unreasonably increase the cost and length of litigation and thwart SLUSA’s “goal of preventing state-court end runs around the limitations that [SLUSA] had placed on federal suits for securities fraud.” The Seventh Circuit observed that, in any event, deleting the fraud allegation in this instance would “not be credible, if we are correct that the allegation may well be central to the plaintiff’s case despite his disclaimer.”