The United States Supreme Court ruled unanimously on March 20, 2018 in Cyan, Inc. v. Beaver County Employees Retirement Fund that the Securities Litigation Uniform Standards Act of 1998 (SLUSA) does not deprive state courts of their concurrent jurisdiction over class action lawsuits brought by investors under the Securities Act of 1933. Additionally, the Supreme Court rejected the position advocated by the Solicitor General that SLUSA should be read to permit removal of class actions asserting only Securities Act claims from state courts to federal courts. The Supreme Court’s ruling resolves a state court and circuit split and confirms that Securities Act class actions filed in state courts are not removable to federal court.
This decision has significant implications for public companies and their officers, directors, and underwriters who are planning or engaging in securities offerings, as well as for the securities class action bar. It portends that in the future, more Securities Act class action claims are likely to be filed and litigated in state courts.
After the 1929 stock market crash, Congress enacted two laws to promote honesty and fair dealing in the securities markets, the Securities Act of 1933 and the Exchange Act of 1934. The Securities Act focuses on securities offerings and imposes various registration and disclosure obligations on issuers of new securities. Chief among these obligations is that issuers must file registration statements with the SEC, which provides detailed information about the company and the securities offered. An investor who purchases such securities may hold the issuer and related parties liable if a registration statement or prospectus “contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statement therein not misleading.” 15 U.S.C §§ 77k(a), 77l(a)(2).
Section 22(a) of the Securities Act is a jurisdictional provision, which states that federal courts have concurrent jurisdiction with state and territorial courts of “all suits in equity and actions at law brought to enforce any liability or duty created by the [Securities Act].” 15 U.S.C. §77v(a). Included in this section is an anti-removal provision, which provides that “[n]o case arising under the [Securities Act] and brought in any State court of competent jurisdiction shall be removed to any court of the United States.” Id. This language protected the plaintiff’s choice of forum, even if a defendant may have preferred litigation in federal court.
More than sixty years after the Securities Act was adopted, in 1995 Congress passed the Private Securities Litigation Reform Act. The Reform Act was a reaction to the perception that private securities litigation was becoming a tool of abuse by the class action plaintiff’s bar, which had a chilling effect on issuers, discouraged quality directors from serving on boards of public companies, and undermined capital markets in a way that ultimately had a negative effect on investors. The Reform Act amended the Securities Act by establishing a number of procedural safeguards in the context of class actions. See, e.g., 15 U.S.C. §§ 77z-1(a)(2)(A)(ii), 77z-1(a)(3), 77z-1(a)(4), 77z-1(a)(5), 77z-1(a)(7). In addition, the Reform Act provided for an automatic stay of discovery pending resolution of a defendant’s motion to dismiss. Id. § 77z-1(b). Although these reforms helped to protect corporate defendants from meritless suits, the Reform Act only applied to federal cases. The unintended consequence of the Reform Act was that it encouraged some members of the plaintiff’s bar to avoid federal courts altogether because the Reform Act’s protections did not apply to state-law claims.
Three years later, Congress enacted the Securities Litigation Uniform Standards Act. As suggested by its title, SLUSA was intended to provide a national, uniform standard for securities class actions and to close the loophole in the Reform Act that drove many of these cases to the state courts. One section of SLUSA, 15 U.S.C. § 77(a), provides that both state and federal courts will hear securities cases “except as provided in section 77p of this title with respect to covered class actions.”
SLUSA’s “core provision” (Section 77p) has two operative subsections. Subsection (b) prohibits certain securities class actions based on state law, which is often referred to as the “state-law class-action bar.” This provision completely disallows (in both state and federal courts) sizable class actions that are founded on state law and allege dishonest practices respecting a nationally traded security’s purchase or sale. Subsection (c) provides for the removal of certain class actions to federal court, so that federal courts can dismiss those cases precluded by subsection (b). Courts have debated for twenty years whether this “except as provided in section 77p” clause preserved or eliminated state court jurisdiction over class actions asserting solely Securities Act violations.
It is this provision that was at the heart of the Supreme Court’s analysis and opinion in Cyan.
Cyan, Inc. was a telecommunications hardware and software supplier that began publicly selling its shares on the New York Stock Exchange in May 2013. After Cyan’s stock price fell by more than half its value, one of Cyan’s stockholders, Beaver County Employees Retirement Fund, filed suit alleging that Cyan violated the Securities Act because Cyan’s offering documents misrepresented the company’s customer base and likely future sales; once the truth became apparent, the stock’s value dropped precipitously.
Cyan moved for judgment on the pleadings in May 2015, arguing that when Congress enacted SLUSA, it effectively removed state court jurisdiction over this type of “covered” securities class action suit. Cyan’s motion was denied by the Superior Court judge, who held that concurrent jurisdiction over securities class actions brought under the Securities Act had existed since 1933 and that SLUSA did not remove the state court’s jurisdiction to hear and decide the case. The intermediate appellate court and the California Supreme Court both declined to review the judge’s decision. Cyan filed certiorari to the US Supreme Court, which was granted in June 2017.
The Parties’ Arguments and the Supreme Court’s Opinion
Cyan’s principal argument was that the text and structure of SLUSA was intended to eliminate concurrent state and federal court jurisdiction and to consolidate jurisdiction with the federal courts to hear and decide covered class actions alleging violation of the Securities Act.
Beaver County (the Respondent and lead plaintiff in the putative class action) argued that a superior textual interpretation of SLUSA is that it only prohibited state courts from hearing class actions that assert prohibited state law claims in connection with the purchase or sale of covered securities, combined with a Securities Act claim. It argued that if Congress had intended to deprive state courts of concurrent jurisdiction that they had enjoyed since 1933, it would have done so “clearly, not obliquely and misleadingly.
The Solicitor General presented a third approach to interpreting SLUSA’s “except clause,” arguing that state courts have concurrent jurisdiction over Securities Act claims—but that defendants should have a right to remove to federal court at their option.
The Supreme Court firmly and unanimously sided with the Respondent’s interpretation of SLUSA’s “except clause,” holding that SLUSA “says nothing, and so does nothing to deprive state courts of jurisdiction over class actions based on federal law.” See Slip Op. 15-1439 at 8 (U.S. March 20, 2018). The Supreme Court’s unanimous decision removed any doubt as to whether state courts may hear and decide securities class actions asserting violations of the Securities Act.
What Does This Decision Mean?
It is important to note that the Cyan decision only relates to claims brought pursuant to the Securities Act—it does not concern claims or class actions asserting violations of the Exchange Act of 1934. This means that the bulk of securities class actions will still proceed in federal court because the Exchange Act regulates all trading of securities, whereas the Securities Act addresses only securities offerings.
Defendants litigating Securities Act class actions now face new concerns and heightened uncertainties. For example, many of the Reform Act’s protections do not apply to state courts. Also, the Cyan decision makes it more likely that defendants may be susceptible to litigation in multiple forums because plaintiffs now have the choice to file in either state or federal courts. A defendant could face “parallel” litigation in both state and federal court, each forum applying a different set of rules for the conduct of class action plaintiffs. This increases the risk of duplicative proceedings (magnifying the costs to defendants) and the possibility of contradictory legal rulings or outcomes. In addition, unlike the federal court system, there is no multi-district litigation rule for coordinating similar lawsuits brought in various state courts. Without the ability to centralize parallel interstate class actions, defendants facing multiple proceedings may need to rely on discretionary stays and common law doctrines such as forum non conveniens, which may or may not adequately address these risks.