The United States Supreme Court issued two recent opinions that offer both good and bad news to defendants in securities fraud lawsuits. Although both cases dealt with primarily procedural issues, the resolution of those issues has an important and substantive impact on the potential exposure of defendants to claims and the costs of dealing with those claims.
Gabelli v. Securities Exchange Commission
In Gabelli v. Securities Exchange Commission (No. 11–1274, February 27, 2013), the Supreme Court ruled that the U.S. Securities and Exchange Commission must file enforcement actions within five years of an alleged fraud, and is not entitled to the same right to a "discovery tolling" of the statute of limitations as private citizens. In the lower court, the SEC alleged that certain late trading by defendants adversely affected long-term fund investors. According to the complaint, the defendants' late trades took place between 1999 and 2002, more than six years prior to the filing of the action.
The operative statute, 28 U.S.C. Section 2462, requires that the government bring any action for civil penalties within five years of the date its claim "first accrued." The defendants argued that any claim "first accrued" when the alleged fraud took place - in 2002 and before. The SEC argued that the claim did not accrue until the agency discovered the fraud in 2003, and that it therefore filed its complaint within the five year limitations period.
Although the statute contains no discovery rule, the Second Circuit found that it implies one, and held that an SEC fraud claim first accrues when the agency discovers or should have discovered alleged misconduct. Reversing the Second Circuit, the unanimous Supreme Court concluded that the SEC filed its claims too late, and was not entitled to a stay or tolling of the limitations period during the one year between the occurrence of the challenged activity and the "discovery" of it by the SEC.
According to Chief Justice Roberts, allowing the government to bring enforcement actions after the time permitted by the plain language of the statute of limitations "would leave defendants exposed to government enforcement actions not only for five years after their misdeeds, but for an additional uncertain period into the future. Repose would hinge on speculation about what the government knew, when it knew it, and when it should have known it." The Court further noted that, unlike private citizens, the SEC and other government agencies have powerful investigative tools at their disposal, and are commissioned with finding and rooting out fraud when it occurs.
Amgen Inc., et al. v. Connecticut Retirement Plans and Trust Funds
In Amgen Inc., et al. v. Connecticut Retirement Plans and Trust Funds (No.11–1085, February 27, 2013), the Supreme Court rejected a bid to raise the bar for securities class action cases. It confirmed that securities fraud class actions need only plausibly allege - not prove - that purportedly misleading statements are material in order to win class certification.
Plaintiff sued Amgen under SEC Rule 10b-5, alleging false statements about the safety of the company's anemia treatment products. Plaintiff then moved for class certification by invoking the fraud-on-the-market presumption to establish that the element of reliance was common to the class. Amgen opposed class certification on the grounds that the alleged false statements could not have been material, and that the fraud-on-the-market presumption could not apply, because the truth about the safety of the products at issue had already been disclosed to the market at the time of the transactions. Amgen further argued that individualized issues predominated over common questions because each purported class member would need to prove that he or she relied on the alleged misstatements.
The Supreme Court addressed 1) whether a securities fraud plaintiff alleging fraud on the market must establish materiality of alleged misstatements in order to obtain and class certification; and 2) whether the district court in such a case must allow the defendant to present evidence rebutting the applicability of the fraud-on-the-market theory prior to certification based on that presumption.
The majority first held that establishing the materiality of alleged fraudulent statements cannot be required at the class certification stage. On the second question, the court held that the district court properly declined to consider rebuttal evidence concerning materiality at the class-certification stage. Instead, trial courts will make a determination of whether alleged statements were material at later stages, at summary judgment or trial.
The Supreme Court's ruling in the Amgen case represents an additional challenge for companies and their directors and officers, who, in certain Circuits, will now lose the early opportunity to defeat potential Rule 10b-5 class actions at the class certification stage. But while the decision resolves a marked Circuit split on the issue, it does not alter the substantive law of such claims, including the requirement of materiality. It merely shifts the timing of when materiality is determined to later in the case. Ultimately, a lack of materiality will continue to dispose of a 10b-5 class action on the merits; however, with the decision made at later stages of the proceeding there is a likelihood that greater legal fees will be spent before reaching that point.