On March 20, 2018, the Supreme Court resolved a split between state and federal courts regarding the ability of plaintiffs to bring class actions in state court arising under federal securities laws. In Cyan, Inc. et al. v. Beaver County Employees Retirement Fund, --- U.S. ---, 2018 WL 1384564 (Mar. 20, 2018), the Court held that the Securities Litigation Uniform Standards Act of 1998 (“SLUSA”) did not strip state courts of jurisdiction over class actions alleging violations of the Securities Act of 1933 (“1933 Act”) where such lawsuits assert claims only under the 1933 Act. The Court also held that defendants could not remove such cases from state courts to federal courts.
That the decision was unanimous does not mean that it was easy. SLUSA had been characterized by the Court at oral argument as “gibberish,” and the result – though compelled by the statutory language – could potentially create unintended and peculiar consequences. As matters now stand, class actions under the Securities Exchange Act of 1934 (“1934 Act”) – such as traditional 10b-5 claims – must be brought in federal court, as must class actions asserting claims under both the 1933 and 1934 Acts. Class actions asserting securities claims solely under state law are similarly bound for federal court (via removal from state court), where they would likely be dismissed under SLUSA. But under Cyan, class actions brought solely under the 1933 Act can stay in state court and cannot be removed – meaning the federal courts have exclusive jurisdiction over only one of the two major federal securities statutes, while state courts can adjudicate federal securities law class actions, but not class actions under their own state’s securities laws.
That may be the statutory mandate, but it is an invitation for plaintiffs’ lawyers to look to squeeze claims under the 1933 Act – typically by alleging a misstatement in a prospectus – if they think their claims will find a more favorable audience in state court, where (for example) the more rigorous federal pleading standards often do not apply. Indeed, it was to combat a barrage of state court securities class actions that SLUSA was enacted in the first place, seeking to impose greater discipline and uniformity of decisions that Congress thought would flow from requiring those actions to be adjudicated solely in federal court. But because the Court in Cyan found no statutory language that clearly divested state courts of jurisdiction to adjudicate 1933 Act cases, the way the statute plainly barred 1934 Act state class actions, the Court was compelled to rule that the state courts’ historical coextensive jurisdiction over 1933 Act claims remains intact.
The putative class plaintiffs were investors of Cyan, Inc. (“Cyan”) who brought suit in California Superior Court seeking damages for alleged violations of the 1933 Act. Cyan moved to dismiss the case for lack of subject matter jurisdiction, arguing that SLUSA stripped state courts of the power to adjudicate 1933 Act claims. The California Superior Court agreed with the plaintiff investors. The Supreme Court granted certiorari after the state appellate courts denied review of the trial court’s ruling.
From the time of its enactment in 1933 until the enactment of SLUSA in 1998, there was no question that the 1933 Act had authorized concurrent state and federal court jurisdiction for lawsuits brought exclusively under the 1933 Act, and that the 1933 Act prohibited the removal of such actions from state to federal court. See generally Securities Act § 22(a), 15 U.S.C. § 77v(a). This was called into question when, as part of SLUSA, the 1933 Act’s jurisdictional provision was modified. SLUSA was enacted in response to an increased number of class actions based on violations of state securities laws, which the class plaintiffs’ bar began to bring in increasing numbers after the passage of the Private Securities Litigation Reform Act of 1995 (“PSLRA”). To combat the prevalence of perceived end runs around the federal securities laws, SLUSA prohibited the filing of certain securities class actions based on state law.
Left uncertain after the passage of SLUSA, however, was the question of whether – in light of SLUSA – plaintiffs are still permitted to bring securities lawsuits in state court under the 1933 Act, and the related question of whether defendants are permitted to remove any such lawsuits to federal court. Various federal courts had ruled that plaintiffs were not permitted to bring such suits in state court (and that removal was permitted), while a number of state courts took the opposite position.
Supreme Court Ruling
In Cyan, the Court resolved this uncertainty and ruled that SLUSA has not changed the law: plaintiffs are still permitted to bring securities lawsuits in state court under the 1933 Act, and defendants may not remove such lawsuits to federal court.
The Court rejected Cyan’s argument that SLUSA eliminated or modified state courts’ ability to adjudicate federal securities laws claims under the 1933 Act, and held that SLUSA’s amendments to Section 22(a) (§ 77v(a)) “do nothing to deprive state courts of their jurisdiction to decide class actions brought under the 1933 Act.”
The Court’s analysis primarily focused on two conforming amendments that SLUSA made to the 1933 Act’s jurisdictional provision. The first amendment provided for removal of cases involving claims brought under state law. The second conforming amendment introduced an important caveat to the general rule that state and federal courts have concurrent jurisdiction over all claims to enforce the 1933 Act – namely, after SLUSA, the 1933 Act’s jurisdictional provision reads, in relevant part: “The district courts of the United States…shall have jurisdiction, concurrent with State and Territorial courts, except as provided in section 77p of this title with respect to covered class actions” of cases brought pursuant to the 1933 Act. Section 22(a), 15 U.S.C. § 77v(a) (emphasis added).
The Court held that the statutory language clearly resolved the issue: “The statute says what it says – or perhaps better put here, does not say what it does not say.” Section 22(a) (§ 77v(a)) has always provided state and federal courts with concurrent jurisdiction to adjudicate securities claims arising under the 1933 Act, and SLUSA (codified into Section 16 (§ 77p)) was enacted to limit plaintiffs’ ability to bring state law securities claims. The Court addressed the “critical question” of whether SLUSA also limited state courts’ ability to adjudicate class actions brought under the 1933 Act. The Court concluded that it did not, and that nothing in Section 16 (§ 77p) deprived state courts of jurisdiction over class actions based on federal law, which, the Court held, “means the background rule of §77v(a) – under which a state court may hear the [plaintiffs’] 1933 Act suit – continues to govern.”
In reaching this decision, the Court rejected Cyan’s argument that SLUSA’s conforming amendments deprive state courts of the ability to adjudicate any dispute involving a “covered class action.” Cyan contended that the reference to “covered class actions” in Section 22 (§ 77v(a)) was intended to invoke Section 16 (§ 77p(f)(2))’s definition of that term (i.e., a suit seeking damages on behalf of more than 50 persons, notwithstanding whether the suit is based on state or federal law). Under Cyan’s reading, all class actions of such size would be subject to the federal courts’ exclusive jurisdiction. The Court held that Cyan’s reading “cannot be squared” with the plain language of Section 22(a) (§ 77v(a)) for two reasons. First, Section 22(a) (§ 77v(a)) refers to Section 16 (§ 77p) as a whole, whereas Cyan argued that it should be read as referring to subsection 16(f)(2) (§ 77p(f)(2)). The Court held that if Congress intended to refer to that definition, “it presumably would have done so – just by adding a letter, a number, and a few parentheticals.” Second, the Court noted that Cyan’s interpretation depended on Section 16(f)(2) (§ 77p(f)(2))’s definition of “covered class action” as “provid[ing]” an “except[ion]” to the rule of concurrent jurisdiction. The Court held that “[a] definition does not provide an exception, but instead gives meaning to a term.” The Court noted that “Congress well knows the difference between those two functions,” and could have more clearly deprived state courts of jurisdiction over class action claims under the 1933 Act had it so desired.
The Court also addressed an argument that the federal government raised in its amici submission: the contention that while SLUSA does not strip state courts of jurisdiction over 1933 Act class actions, SLUSA nevertheless permits defendants to remove to federal court class actions asserting 1933 Act claims, so long as they allege the kinds of misconduct listed in Section 16(b) (§ 77p(b)) (e.g. false statements or deceptive devices in connection with the purchase or sale of a security on a national exchange). The Court rejected this argument, reiterating that SLUSA’s provision codified in Section 16(b) (§ 77p(b)) governed state-law class actions. Thus, “federal-law suits like this one – alleging only 1933 Act claims – are not ‘class action[s]…as set forth in subsection (b) [of Section 16 (§ 77p)].’ So they remain subject to the 1933 Act’s removal ban.”
While the strong majority of securities litigation invoking federal law will most likely continue to be brought in federal court due to federal courts having exclusive jurisdiction over cases brought under the 1934 Act (as well as cases asserting claims under both the 1933 and 1934 Acts), the Court’s decision in Cyan could have several implications for companies facing class action suits.
- Cyan did not change the status quo in California, which has been a common destination for plaintiffs bringing 1933 Act claims in state court, which cannot be removed to federal court by defendants. With the Court blessing that approach, we can expect this trend to continue and perhaps accelerate, with the approach expanding to other jurisdictions as well. This includes New York, where Cyan overturns an earlier Southern District of New York decision that limited such actions to the federal courts.
- Because the 1933 Act does not permit removal to federal court of cases filed in state court, defendants may be required to simultaneously fight securities lawsuits asserting 1933 Act claims involving the same general allegations in both state and federal courts. Centralizing or consolidating these cases might be more difficult than centralizing or consolidating cases brought in multiple federal courts. Coordination of discovery may also be difficult to achieve.
- Plaintiffs may increasingly elect to bring 1933 Act claims in state court in an attempt to avoid various PSLRA requirements and specifications (including, for example, the PSLRA’s mechanism for selecting lead plaintiffs and lead counsel), as well as in the hope that certain state courts might be less likely to dismiss insufficiently pled complaints. Moreover, it may prove well-nigh impossible to obtain federal review of flawed state court rulings on these types of issues, as the only clear path for review would be through the state court appellate system, culminating in discretionary review at the U.S. Supreme Court. This adds to the risk of divergent and inconsistent interpretation of federal securities law.