On August 13, 2012, the District Court for the District of Columbia held that the Supreme Court’s decision in Morrison v. National Australia Bank, 130 S. Ct. 2869 (2010) (Scalia, J.) precludes Section 10(b) claims involving securities purchased on Euronext. Phelps v. Stomber, 2012 WL 3276969 (D.D.C. Aug. 13, 2012) (Jackson, J.). Although a U.S. entity owns Euronext, the court found that “Euronext is not a U.S. exchange” under Morrison because “[t]he exchange is located in the Netherlands.” Id. at *14.

The Phelps court further held that Morrison does not preclude Section 10(b) claims involving Restricted Depository Shares (“RDSs”) purchased in the United States. Rejecting the argument that RDSs are the “functional equivalent” of shares traded on a foreign exchange, the court emphasized that Morrison’s brightline test “focuses specifically and exclusively on where the plaintiff’s purchase occurred.” Id. at *16. The court nevertheless dismissed the plaintiff’s RDS-related Section 10(b) claims for failure to allege a misstatement or omission and failure to allege loss causation.


Carlyle Capital Corporation (“CCC”) was “a closedend investment fund … formed as a limited company under the laws of Guernsey[.]” Id. at *4. The company’s “business model involved using highly leveraged financing in the form of repurchase loan agreements (‘repos’) to invest in residential mortgage-backed securities (‘RMBS’).” Id.

In an offering on July 11, 2007 (the “Offering”), CCC sold more than 18 million Class B shares and RDSs. CCC’s Class B shares were listed exclusively on Euronext and “sold only outside the United States to foreign investors.” Id. at *4. CCC’s RDSs were “sold to investors in the United States, as well as foreign investors.” Id.

“The Offering Memorandum emphasized that CCC would ‘utilize leverage extensively’ and ‘without limit.’” Id. at *6. “The Offering Memorandum also discussed the risk factors associated with CCC’s business model[.]” Id. For example, CCC warned investors that it could not guarantee that the liquidity cushion would be “‘sufficient to satisfy margin calls.’” Id. CCC also cautioned that “[t]he price of Class B shares and the RDSs may fluctuate significantly” and investors “could lose all or part of [their] investment[s].” Id. at *7. In June 2007, CCC issued a Supplemental Offering Memorandum disclosing a significant decline in CCC’s fair value reserves.

In March 2008, CCC entered into liquidation proceedings. The plaintiffs subsequently brought suit on behalf of (1) purchasers of Class B shares and/or RDSs in CCC’s Offering; and (2) certain aftermarket purchasers of Class B shares. The defendants moved to dismiss the plaintiffs’ claims under Section 10(b) and Rule 10b-5 based, inter alia, on Morrison.

The Court Holds Morrison Precludes Section 10(b) Claims Involving Class B Shares

Turning first to the plaintiffs’ Section 10(b) claims involving Class B shares, the district court found “no allegation in the complaint that any plaintiff [had] purchased Class B shares in the Offering in the United States.” Id. at *14. “Indeed, the Offering Memorandum specifically state[d] that ‘the Class B shares [could] not be offered or sold within the United States or to U.S. persons.’” Id.

As to claims involving aftermarket purchases of Class B shares, the plaintiffs argued that Morrison was not dispositive because (1) “CCC was actually a U.S. company, even though it was incorporated under the laws of Guernsey,” and (2) “Euronext was actually a U.S. exchange because … it was owned by a Delaware company.” Id. The district court rejected the “plaintiffs’ effort to label everything ‘Made in America’ to get around Morrison[.]” Id. “According to [the] plaintiffs’ own allegations, CCC [was] not a U.S. company—it was incorporated under the laws of Guernsey.” Id. Moreover, the court determined that “Euronext is not a U.S exchange. The exchange is located in the Netherlands.” Id.

The court noted that the plaintiffs could “point[ ] to no authority that would suggest that there is any significance to the fact that a foreign exchange was owned by a U.S. entity.” Id. “To the contrary, Morrison specifically directed courts to focus on the geographic location of the transaction, and here, the aftermarket purchase of Class B shares occurred on a foreign exchange.” Id. (internal citation omitted). “[O]ther courts that have considered similar questions after Morrison have treated Euronext as a foreign exchange.” Id. (citing In re Vivendi Universal, S.A. Sec. Litig., 842 F. Supp. 2d 522 (S.D.N.Y. 2012) (Holwell, J.); In re Société Générale Sec. Litig., 2010 WL 3910286, at *5 (S.D.N.Y. Sept. 29, 2010) (Berman, J.)).

The district court therefore held that “[t]he federal securities claims with respect to the aftermarket are barred by Morrison because the Class B shares were purchased on a foreign exchange and therefore were not bought or sold in the United States.” Id. at *16.

The Court Finds Morrison Does Not Preclude Section 10(b) Claims Involving RDSs

The court next considered the defendants’ motion to dismiss Section 10(b) claims arising out of the RDS transactions. CCC’s “RDSs were sold to U.S. investors in the Offering under Regulation D and Rule 144A, which are the two registration exemptions applicable to securities sold in the United States.” Id. at *15 (internal citations omitted). “The RDSs were issued by the Bank of New York, which described them as ‘U.S. securities’ on their website.” Id. “U.S. investors were only permitted to purchase RDSs in the Offering because they were not eligible to buy Class B shares.” Id. “Taking [the] allegations together,” the court found that there was “no question that the RDSs were ‘bought and sold in the United States[.]’” Id. The court observed that the “defendants do not appear to challenge [this] conclusion seriously.” Id.

“Rather,” the defendants’ “primary” argument was that “the RDSs sold here were ‘tethered’ to the Class B shares sold only on [a] foreign exchange.” Id. The “defendants urge[d] the [c]ourt to look at the ‘economic reality’ underlying the transaction and to conclude that purchasing an RDS was ‘a transaction that has a necessary foreign connection’ for Morrison purposes.” Id.

The defendants cited the Southern District of New York’s decisions in Société Générale and Elliott Associates v. Porsche Automobil Holdings SE, 759 F. Supp. 2d 469 (S.D.N.Y. 2010) (Baer, J.) as support for their argument. In Société Générale, the court considered claims arising out of the plaintiffs’ purchases of American Depository Receipts (“ADRs”), “which are similar to RDSs in that they represent the shareholder’s ownership of a foreign security traded on a foreign exchange.” Phelps, 2012 WL 3276969, at *15. The Société Générale court “determined that because ‘trade in ADRs is considered to be a predominately foreign securities transaction,’ [S]ection 10(b) did not apply.” Id. (quoting Société Générale, 2010 WL 3910286, at *1).6

Elliott concerned “the purchase of securities-based swap agreements that referenced the share price of foreign stock.” Id. The court found that the swap agreements at issue were the “functional equivalent of trading the underlying company’s shares on a [foreign] exchange.” Elliott, 759 F. Supp. 2d at 476. “Accordingly,” the Elliott court held that “the economic reality is that [the] [p]laintiffs’ swap agreements [were] essentially ‘transactions conducted upon foreign exchanges and markets,’ and not ‘domestic transactions’ that merit the protection of § 10(b).” Id. (quoting Morrison, 130 S. Ct. at 2882, 2884).7

“Relying on these cases,” the defendants in Phelps “suggest[ed] that the [c]ourt employ an ‘economic reality’ or ‘functional equivalent’ test to determine whether the claims [were] barred under Morrison.” Phelps, 2012 WL 3276969, at *16. The District Court for the District of Columbia found “the ‘functional equivalent’ gloss that the Elliott and Société Générale courts have developed” to be “inconsistent with the bright line test set forth by the Supreme Court in Morrison, which focuses specifically and exclusively on where the plaintiff’s purchase occurred.” Id. “While [the] defendants’ contention that an investor could not purchase an RDS in the United States without a corresponding overseas transaction may be true,” the court held that this “does not change the fact that a purchase in the United States still took place.” Id.

The court concluded that “[t]he federal securities claims with respect to the Offering are not barred by Morrison because [the] plaintiffs’ purchases of RDSs constituted a ‘purchase or sale of [a] security in the United States.’” Id. (quoting Morrison, 130 S. Ct. at 2993).

The Court Dismisses the RDS-Related Section 10(b) Claims for Failure to State a Claim

Although the court held that Morrison does not preclude the plaintiff’s RDS-related Section 10(b) claims, the court ruled that those claims must nevertheless be dismissed for failure to allege a misstatement or omission and failure to allege loss causation.

The court noted that the “gravamen of the complaint is that the CCC Offering Memorandum was materially false and misleading because while it disclosed that liquidity issues that would affect the company could occur, it omitted information that would have alerted investors to the fact that those events were already occurring.” Id. at *1. Rejecting the plaintiffs’ core argument, the court found that the Offering materials “specifically placed buyers on notice of what CCC was doing and the fact that it had recently experienced the very reversals that [the] plaintiffs claim should have been disclosed.” Id. at *2. “So, this action lacks the defining element of fraud: a falsehood.” Id. The court held that “[t]he federal claims also fall short of supporting the necessary allegation that the alleged fraud caused the plaintiffs’ losses.” Id.

“Essentially,” the court explained that “this complaint is an attack on how CCC was managed, and ultimately, it questions the wisdom behind the adoption of its business model in the first place.” Id. at *1. “But chiding CCC with the benefit of hindsight for its failure to resist the stampede to purchase mortgagebacked securities is not the same thing as alleging fraud, particularly given the stringent standards of the [Private Securities Litigation Reform Act].” Id.