On February 27, 2013, the U.S. Supreme Court held that, in securities class actions challenging false or misleading statements, the plaintiff need not prove that the alleged misstatements were material in order to obtain class certification using the so-called fraud-on-the-market presumption of reliance. In an opinion authored by Justice Ginsburg, a six-Justice majority of the Court concluded in Amgen Inc. v. Connecticut Retirement Plans & Trust Funds, No. 11-1085, that "while [the plaintiff] certainly must prove materiality to prevail on the merits," "such proof is not a prerequisite to class certification." Slip op. at 2.
Amgen Inc. is a biotechnology company that develops and manufactures human therapeutics. The plaintiff, Connecticut Retirement Plans and Trust Funds, brought suit against Amgen under Section 10(b) of the Securities Exchange Act of 1934 and the Securities and Exchange Commission's Rule 10b-5, alleging--on behalf of a putative class of current and former Amgen shareholders--that Amgen made misrepresentations regarding the safety of two drugs, and that these misstatements artificially inflated Amgen's stock price. When the truth was disclosed, Connecticut Retirement claims, Amgen's stock price declined, allegedly resulting in losses to investors who had purchased the stock at an inflated price.
To prevail on its claims, Connecticut Retirement and the other class members must prove that they relied on the alleged misrepresentations. The Supreme Court has recognized that the individual inquiries necessary to show actual reliance would ordinarily foreclose class certification, as the need to conduct such inquiries on a class-member-by-class-member basis would overwhelm any common issues in the case. For this reason, Connecticut Retirement sought to invoke a presumption of reliance adopted by the Supreme Court in Basic Inc. v. Levinson, 485 U.S. 224 (1988). The "fraud-on-the-market" approach endorsed by Basic presumes that investors have relied on public, material misrepresentations regarding stocks that trade on an efficient market, because the price of those stocks should incorporate all material, publicly available information.
Amgen, however, disputed that the statements at issue were material, and argued further that Connecticut Retirement could not obtain class certification unless it proved the materiality of the statements; if the statements were not material, Amgen argued, then Connecticut Retirement could not invoke the fraud-on-the-market presumption, and the remaining (individual) questions of reliance would foreclose certification. The district court disagreed and certified a class action under Federal Rule of Civil Procedure 23(b)(3) consisting of investors who purchased Amgen's stock between the first misrepresentation and the last corrective disclosure.
The Ninth Circuit granted review of the certification decision under Federal Rule of Civil Procedure 23(f) and affirmed. Deepening a conflict between the circuits, the Ninth Circuit held that the proponent of class certification need not prove materiality in order to obtain class certification using the fraud-on-the-market presumption of reliance.
The U.S. Supreme Court granted Amgen's petition for a writ of certiorari and, after briefing and argument, affirmed the Ninth Circuit's judgment in a six-to-three decision.
Writing for the majority, Justice Ginsburg emphasized that "Rule 23(b)(3) requires a showing that questions common to the class predominate, not that those questions will be answered, on the merits, in favor of the class." Slip op. 2. Her opinion for the Court gave "two reasons" for its conclusion that "proof of materiality" is unnecessary 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." Id. at 10.
First, because "'[t]he question of materiality . . . is an objective one, involving the significance of an omitted or misrepresented fact to a reasonable investor,' materiality can be proved through evidence common to the class." Slip op. at 11. "[T]he materiality of Amgen's alleged misrepresentations and omissions is a question common to all members of the class Connecticut Retirement would represent," Justice Ginsburg explained, because "[t]he alleged misrepresentations and omissions, whether material or immaterial, would be so equally for all investors composing the class." Id. at 2.
Second, "there is no risk whatever that a failure of proof on the common question of materiality will result in individual questions predominating" because materiality is also "an essential element of a Rule 10b-5 claim." Slip op. at 11. "Connecticut Retirement's failure to present sufficient evidence of materiality to defeat a summary-judgment motion or to prevail at trial would not cause individual reliance questions to overwhelm the questions common to the class," but instead "the failure of proof on the element of materiality would end the case for one and for all." Ibid. Thus, while the Court had concluded in Erica P. John Fund, Inc. v. Halliburton Co., 563 U. S. ___ (2011), that the class proponent must prove certain other prerequisites for invoking the fraud-on-the-market presumption of reliance--including that the statements at issue were publicly known and that the stock traded in an efficient market--the Court distinguished these prerequisites on the ground that, "unlike materiality, market efficiency and publicity are not indispensable elements of a Rule 10b-5 claim." Slip op. at 17.
In a footnote, the Court acknowledged that the dissenting Justices had "describ[ed] Basic's adoption of the fraud-on-the-market presumption of reliance as 'questionable,'" but noted that "'the Court has not been asked to revisit' that issue." Slip op. at 6 n.2. The Court also noted, in a different footnote, that Amgen had adduced "modern economic research tending to show that market efficiency is not 'a binary, yes or no question,'" and that "differences in efficiency can exist within a single market." Id. at 14 n.6. The Court's opinion expressed skepticism about the relevance of this research, questioning how "research on market efficiency bolsters [Amgen's] argument that courts should require precertification proof of materiality." Ibid. Nevertheless, the Court did not "explor[e] whatever implications the research Amgen cites may have for the fraud-on-the-market presumption recognized in Basic" because "Amgen conceded in its answer that the market for its securities is 'efficient.'" Ibid.
Justice Alito wrote a short concurring opinion explaining that he "join[ed] the opinion of the Court with the understanding that [Amgen] did not ask us to revisit Basic's fraud-on-the-market presumption." Slip op. at 1. He noted, however, that "reconsideration of the Basic presumption may be appropriate" in light of "recent evidence suggest[ing] that the presumption may rest on a faulty economic premise." Ibid.
Justice Thomas wrote the principal dissenting opinion, which was joined in full by Justice Kennedy and in part by Justice Scalia. In the portion of the opinion joined by all three dissenting Justices, Justice Thomas argued that the Court's decision "all but eliminat[es] materiality as one of the predicates of the fraud-on-the-market theory." Slip op. at 1. "Without demonstrating materiality at certification," he reasoned, "plaintiffs cannot establish Basic's fraud-on-the-market presumption." Ibid. But "[w]ithout proof of fraud on the market, plaintiffs cannot show that otherwise individualized questions of reliance will predominate, as required by Rule 23(b)(3)." Ibid. "Plaintiffs cannot be excused of their Rule 23 burden to show at certification that questions of reliance are common," he insisted, "merely because they might lose later on the merits element of materiality." Id. at 2.
Justice Thomas stated in a footnote that "[t]he Basic decision itself is questionable." Slip op. at 4 n.4. "Only four Justices joined the portion of the opinion adopting the fraud-on-the-market theory," he emphasized, and "Justice White, joined by Justice O'Connor, dissented from that section" on the ground that "the Court is 'not well equipped to embrace novel constructions of a statute based on contemporary microeconomic theory'"--a concern that Justice Thomas characterized as "valid today." Id. at 4-5 n.4. Because "the Court has not been asked to revisit Basic's fraud-on-the-market presumption," however, he "limit[ed] [his] dissent to demonstrating that the Court is not following Basic's dictates." Id. at 5 n.4. (Justice Thomas elsewhere argued that "Basic is a judicially invented doctrine based on an economic theory adopted to ease the burden on plaintiffs bringing claims under an implied cause of action." Id. at 12.)
In the sole section of the opinion that Justice Scalia did not join, Justice Thomas concluded 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." Slip op. at 12. Although "[a] plaintiff seeking class certification is not required to prove the elements of his claim at the certification stage," Justice Thomas explained, "he must show that the elements of the claim are susceptible to classwide proof." Id. at 7. And thus "[a] plaintiff who cannot prove materiality does not simply have a claim that is 'dead on arrival' at the merits; he has a class that should never have arrived at the merits at all because it failed Rule 23(b)(3) certification from the outset." Id. at 8.
In addition to joining most of Justice Thomas's dissenting opinion, Justice Scalia wrote a separate dissent. He argued that the fraud-on-the-market presumption "is to be found nowhere in the United States Code or in the common law of fraud or deception," and instead "was invented by the Court" in Basic. Slip op. at 1. While Justice Scalia acknowledged that the Court "logically enough" concluded that "commonality is established at the certification stage even when materiality has not been shown," which perhaps explains his decision not to join Justice Thomas's opinion in full, "[t]hat would be a correct procedure if Basic meant the rule it announced to govern only the question of substantive liability." Ibid. According to Justice Scalia, however, "the Basic rule of fraud-on-the-market . . . governs not only the question of substantive liability, but also the question whether certification is proper." Id. at 1-2. Thus, he concluded, "[a]ll of the elements of that rule, including materiality, must be established if and when it is relied upon to justify certification." Id. at 2. The Court's contrary approach "expands" the "regrettable consequences of the four-Justice opinion in Basic" from the "arguably regrettable to the unquestionably disastrous." Id. at 4.
The Supreme Court's decision in Amgen provides useful guidance to lower courts regarding the plaintiff's burden at the certification stage in securities-fraud class actions. Earlier cases, including Halliburton, had made clear that Rule 23 does not require the class proponent to establish various elements of its Rule 10b-5 claim, such as the falsity or misleading nature of the statements at issue, as a prerequisite for obtaining class certification. Halliburton also explained, however, that the class proponent must prove certain prerequisites of the fraud-on-the-market presumption, including the publicity of the statements and the efficiency of the market, because individualized questions of reliance would otherwise foreclose certification. Amgen holds, in turn, that--at least in general--materiality is not one of the prerequisites that must be established at the certification stage.
The Amgen opinion leaves open the possibility that, in a later case, the defendant could argue that efficiency is "not 'a binary, yes or no question,'" slip op. at 14 n.6, and that this fact has implications for whether materiality must be established as a prerequisite for certification. It may be difficult to advance this argument given the Supreme Court's evident skepticism of the connection between "market efficiency" and "precertification proof of materiality." Ibid. And if the lower courts read the Supreme Court's decision as adopting a categorical rule that, regardless of "modern economic research" (ibid.), the proponent of class certification need not establish materiality at the certification stage, then any precertification inquiry into materiality would typically be limited to a motion to dismiss, applying the plausibility standard discussed in Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007), and Ashcroft v. Iqbal, 556 U.S. 662 (2009).
Even more significantly, the various opinions in Amgen indicate that several of the Justices have potentially serious concerns about the Court's decision in Basic. As both the Court's opinion and Justice Thomas's dissent explain, the Basic decision arose from unusual circumstances: three of the Justices had recused themselves, leaving only a "quorum of six Justices who participated in the case." Slip op. at 4. And of the six-Justice Court, only a bare majority of four Justices joined the portion of the Basic opinion endorsing the fraud-on-the-market presumption. Moreover, both Justices Thomas and Alito "observ[ed]" that "more recent evidence" suggests that the presumption "rest[s] on a faulty economic premise." Id. at 1.
In Amgen, four Justices--enough to grant review in a future case--expressed skepticism about the continuing viability of Basic's presumption. Justice Scalia characterized the Basic opinion as "arguably regrettable," slip op. at 4; Justice Thomas, joined by Justices Scalia and Kennedy, called it "questionable," id. at 4 n.4; and Justice Alito joined the majority opinion only after acknowledging that "reconsideration of the Basic presumption may be appropriate," id. at 1. Although the Supreme Court has long made clear that lower federal courts cannot themselves overrule the Court's decisions, defendants in putative class actions will likely consider preserving the argument that the fraud-on-the-market presumption is unavailable in all or at least some (if efficiency is not "binary") Rule 10b-5 cases where it currently would apply, in the event that the Supreme Court ultimately decides to reconsider Basic.