On Monday, June 6, 2011, the Supreme Court issued a unanimous decision in Erica P. John Fund, Inc. v. Halliburton Co., ruling that plaintiffs in a private securities fraud class action need not prove loss causation1 in order to obtain a certified class. That decision, authored by Chief Justice Roberts, abrogates the 5th Circuit decision Oscar Private Equity Investments v. Allegiance Telecom, Inc., 487 F.3d 261 (5th Cir. 2007) and its progeny.
The Halliburton case was brought as a putative securities fraud class action against the Halliburton Company and one of its executives (collectively “Halliburton”). The plaintiff, Erica P. John Fund, Inc. (hereinafter the “Plaintiff”), claimed that “Halliburton made false statements concerning three areas of business: (1) Halliburton’s potential liability in asbestos litigation; (2) Halliburton’s accounting of revenue in its engineering and construction business; and (3) the benefits to Halliburton of a merger with Dresser Industries.”2 Investors lost money, the Plaintiff alleged, when Halliburton issued subsequent disclosures that corrected the false statements and the market declined following the negative news.3 The Plaintiff filed a motion to certify the class, the district court denied the motion and was affirmed by the Fifth Circuit, which concluded that “Plaintiff has failed to meet this court's requirements for proving loss causation at the class certification stage.”4
In vacating the decision of the Fifth Circuit, the Supreme Court relied upon its prior jurisprudence in Basic Inc. v. Levinson, 485 U.S. 224 (1988). The Court noted that according to the Court of Appeals, “EPJ Fund also had to establish loss causation at the certification stage to ‘trigger the fraud‐on‐the‐market presumption.’”5 But, “[t]he Court of Appeals’ requirement is not justified by Basic or its logic.”6 Never before had the Court mentioned loss causation as a precondition for invoking Basic’s rebuttable presumption.7 Indeed, “Loss causation addresses a matter different from whether an investor relied on a misrepresentation, presumptively or otherwise, when buying or selling a stock.”8 The Court noted that while, under Basic’s fraudon‐ the‐market doctrine, an investor presumptively relies on a misrepresentation if that information is reflected in the market price of a stock at the time of the relevant transaction, loss causation, by contrast “requires a plaintiff to show that a misrepresentation that affected the integrity of the market price also caused a subsequent economic loss.”9
According to the Supreme Court, the Fifth Circuit’s rule “contravenes Basic’s fundamental premise – that an investor presumptively relies on a misrepresentation so long as it was reflected in the market price at the time of his transaction.”10 The fact that a subsequent loss may have been caused by factors other than the revelation of a misrepresentation, the Court explained, has nothing to do with whether an investor relied on a misrepresentation in the first place, either directly or through the fraud‐on‐the‐market theory.11 Counsel for Halliburton had attempted to argue that the Fifth Circuit had not actually required a showing of loss causation at the class certification stage, but had instead used that phrase as shorthand for “price impact,” i.e., “whether the alleged misrepresentations affected the market price in the first place.”12 The Supreme Court did not accept “Halliburton’s wishful interpretation of the Court of Appeals’ Opinion,” because “loss causation is a familiar and distinct concept in securities law; it is not price impact.”13
The Court thus ruled that the Court of Appeals erred by requiring the Plaintiff to show loss causation as a condition for obtaining class certification.14 Given its holding, the Court declined to address another issue raised by the briefs (as well as several recent decisions of the Courts of Appeal) as to which there is also a divergence of opinion among the Circuits: whether or not the Basic fraud‐on‐the‐market presumption may be rebutted at the class certification stage.