General framework

General climate

Describe the nature and extent of securities litigation in your jurisdiction.

The US Congress has enacted multiple statutes that govern federal securities claims, which include the following:

  • The Securities Act of 1933 (the Securities Act) focuses on public securities offerings and addresses registration requirements, private remedies, and anti-fraud provisions based on disclosure in registration statements and prospectuses. 
  • The Securities Exchange Act of 1934 (the Exchange Act) governs, among other things, aspects of the public trading of securities, and contains anti-fraud provisions and all public statements and periodic reporting requirements for certain issuers. It also established the Securities and Exchange Commission (SEC), the federal agency that administers and enforces the federal securities laws.  
  • The Private Securities Litigation Reform Act of 1995 provides for enhanced pleading requirements, a safe harbour for forward-looking statements, and sanctions for abusive litigation. 
  • The Securities Litigation Uniform Standards Act of 1998 pre-empts many securities fraud class actions that are based on state statutory or common law.
  • The Class Action Fairness Act of 2005 extends federal diversity jurisdiction to class actions with 100 or more class members where: (1) the amount in controversy, in the aggregate of all of the class members, exceeds US$5 million; and (2) at least one class member is a citizen of a different state or country from that of any defendant.  

 

In addition, individual US states regulate securities through state statutes, which are commonly known as ‘blue-sky’ laws. The requirements of blue-sky laws differ substantially from state to state, and may overlap with those of other states and federal law. Most states’ blue-sky laws recognise a private right of action for securities fraud. New York’s Martin Act, however, restricts enforcement to the state’s Attorney General.

After a more than two-decade increase in US securities class-action filings, the number of filings declined for a second consecutive year in 2021, falling 36 per cent over the previous year and reaching the lowest level since 2009. This decrease was driven by a notable decline in new merger-objection class actions, which fell by 85 per cent. As the number of new cases fell, so did the value of settlements. The average settlement decreased in value by over 50 per cent in 2021 to US$21 million, the lowest recorded average in the last 10 years. Despite the overall decline, certain types of filings increased, including claims concerning special purpose acquisition companies – corporations formed for the sole purpose of raising investment capital through initial public offering.

Claims and defences

Available claims

What types of securities claim are available to investors?

The most common federal claim asserted by private plaintiffs is for violation of section 10(b) of the Securities Exchange Act of 1934 (the Exchange Act) and Securities and Exchange Commission (SEC) Rule 10b-5 promulgated thereunder, which make it unlawful to employ deceptive or manipulative devices in connection with the purchase or sale of securities. Section 10(b) claims are often coupled with claims under section 20(a) of the Exchange Act, which imposes joint and several liability on persons who exercise actual power or control over persons found liable under section 10(b). Section 20A of the Exchange Act also permits private plaintiffs to bring claims for insider trading – trading on material non-public information in breach of duty of trust or confidence – where the plaintiff traded ‘contemporaneously’ with the defendant. Government regulators, however, enforce insider trading – which the US Supreme Court has held violates section 10(b) and Rule 10b-5 – more often than private parties.

Private plaintiffs also often assert claims under the Securities Act of 1933 (the Securities Act) in connection with the public offerings of securities. Common claims are for violation of section 11 of the Securities Act, which prohibits misstatements in registration statements, and section 12(a)(2), which prohibits misstatements in the sale of securities sold via a prospectus (a document describing a public offering of securities) or oral communication.

Each US state also regulates securities through ‘blue-sky’ laws which often involve analogous causes of action. These laws vary significantly by state.

Offerings versus secondary-market purchases

How do claims (or defences to claims) arising out of securities offerings differ from those based on secondary-market purchases of securities?

The main difference between securities claims arising out of initial offerings versus secondary-market purchases is the element of ‘scienter’, or a mental state embracing an intent to deceive, manipulate, or defraud. Claims brought under sections 11 and 12(a)(2) of the Securities Act – which prohibit misstatements in a registration statement and other offering communications – do not require proof of scienter.

While scienter is not an element of sections 11 or 12(a)(2) claims, defendants may raise a number of defences not available to section 10(b) defendants in response to those claims. Section 11, for example, exempts from liability persons who undertook reasonable efforts to investigate and verify the statements in the registration statement. Section 12, moreover, does not impose liability on persons who, in the exercise of ‘reasonable care’, could not have known of the alleged untruth or omission. Sections 11 and 12(a)(2) both apply only to securities traceable to the offering in which allegedly false or misleading statements occurred.

 

Public versus private securities

Are there differences in the claims or defences available for publicly traded securities and for privately issued securities?

Section 10(b) of the Exchange Act and SEC Rule 10b-5 govern purchases and sales of both privately issued and publicly traded securities. Sections 11 and Section 12(a)(2) of the Securities Act, by contrast, are limited to purchasers who bought stock in a public offering. That is because section 11 prohibits misstatements and omissions in registration statements, which are not required for private placements, and section 12(a)(2) is limited to purchasers who bought stock in an offering pursuant to a ‘prospectus’– a document that describes a ‘public offering’ of securities (Gustafson v Alloyd Co, Inc, 513 US 561 (1995)).

Primary elements of claim

What are the elements of the main types of securities claim?

Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder

The elements of the claim are:

  • a misstatement or omission of material fact;
  • scienter (intent);
  • a connection with the purchase or sale of securities;
  • reliance;
  • economic loss; and
  • loss causation. 

 

Section 11 of the Securities Act of 1933

The elements of the claim are:

  • the plaintiff purchased a registered security, either directly from the issuer or in the aftermarket if the purchase is traceable to the offering;
  • the defendant participated in the offering in a manner sufficient to give rise to liability under section 11; and
  • the registration statement contained an untrue statement of material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading.

 

Section 12(a)(2) of the Securities Act of 1933

The elements of the claim are:

  • the defendant passed title or other interest in the security to the buyer for value, or successfully solicited the purchase of a security;
  • the sale was effectuated by means of a prospectus (a document that describes a public offering) or oral communication; and
  • the prospectus or oral communication included an untrue statement of a material fact or omitted to state a material fact necessary in order to make the statements not misleading.
Materiality

What is the standard for determining whether the misstated or omitted information is of sufficient importance to be actionable?

To establish liability under sections 10(b) and sections 11 or 12(a)(2), a plaintiff must not only demonstrate a misstatement or omission, but that it was ‘material’ within the meaning of the securities laws. Materiality depends on whether a substantial likelihood exists that a reasonable investor would have viewed the misstatement or omission as significantly altering the total mix of information made available (Basic Inc v Levinson, 485 US 224, 231–32 (1988)). Generally, materiality is fact-dependent and must be determined case-by-case based on the circumstances. Courts, however, have found certain generic or unverifiable statements to be immaterial as a matter of law, including certain statements of opinion, forward-looking statements coupled with meaningful cautionary language, and ‘puffery’ (ie, vague or optimistic rhetoric about a company’s business or prospects).

Scienter

What is the standard for determining whether a defendant has a culpable state of mind to support liability? What types of allegation or evidence are typically advanced to support or defeat state-of-mind requirements?

Section 10(b) claims require factual allegations, and, ultimately, evidence of scienter (an intent to deceive, manipulate or defraud). The PSLRA further requires that the plaintiffs’ complaint, in order to survive a motion to dismiss, allege facts that give rise to a ‘strong’ inference of scienter, which may be established with allegations that the defendants had both the motive and opportunity to commit fraud, or engaged in conscious misbehaviour or recklessness. Most lower courts have held that extreme recklessness will also suffice, but the US Supreme Court has not yet addressed that question. The scienter of a business entity may be inferred from an individual who acted with scienter and whose scienter can be imputed to the entity, for example, because the individual acted with authority or within the scope of his or her employment. In rare cases, scienter may be inferred from a misstatement so significant that the maker’s intent can be assumed.

Proof of state of mind is not required to establish a prima facie claim under sections 11 and 12(a)(2) of the Securities Act. Under section 11, however, non-issuer defendants may avoid liability if, after a reasonable investigation, they had reasonable grounds to believe the statements in the registration were true. Similarly, under section 12(a)(2), liability may not extend to those who, in the exercise of ‘reasonable care’, could not have known of the alleged untruth or omission.  

Reliance

Is proof of reliance required, and are there any presumptions of reliance available to assist plaintiffs?

‘Reliance’, also known as ‘transaction causation’, requires a plaintiff to plead and prove that but for an alleged misstatement or omission, the investor would not have purchased or sold the security. A plaintiff may satisfy the requirement with evidence that it was aware of an alleged misstatement and acquired the security on that basis. More commonly, however, a plaintiff will seek to utilise one of two presumptions of reliance articulated by the US Supreme Court. Under the ‘fraud on the market’ theory, reliance is presumed if the security is traded on an ‘efficient’ market between the date of the misrepresentation and the date of correction (Basic Inc v Levinson, 485 US 224 (1988)). This presumption is based on the notion that in an efficient market, the integrity of the stock price reflects all available public information and investors are presumed to rely on the security’s price in making a purchase or sale decision. In addition, reliance may be presumed in cases primarily involving omissions, on the theory that reliance is impossible to prove when no positive statements were made (Affiliated Ute Citizens of Utah v United States, 406 US 128 (1972)). These presumptions of reliance are especially important in securities class actions, where otherwise individual questions of reliance across a putative class would predominate over common questions, and, in most cases, defeat the class-action mechanism.

Reliance is not an element of a claim under section 11 or 12(a)(2) of the Securities Act. A defendant, however, may defeat these claims upon a showing that plaintiff knew of the falsity of a statement or omitted fact when it purchased the subject securities.  

Causation

Is proof of causation required? How is causation established? How is causation rebutted?

In addition to establishing ‘transaction causation’ (reliance), a section 10(b) plaintiff also must demonstrate ‘loss causation’ (ie, a causal link between the alleged misconduct and economic harm suffered by the plaintiff) (Dura Pharmaceuticals, Inc v Broudo, 544 US 336 (2005)). Expert testimony often is necessary to prove loss causation, including event or econometric studies that seek to eliminate other causes of loss. Most cases establish loss causation through evidence of a ‘corrective disclosure’ that publicly revealed the falsity of the alleged misstatement or omission, leading to a subsequent decline in value of the security. 

Loss causation is not an element of a section 11 or 12(a)(2) claim. A defendant, however, may reduce or eliminate damages under these claims (and under section 10(b) as well) by proving that depreciation in the value of the security resulted from events other than misrepresentations or omissions. 

Other elements of claim

What elements or defences present special issues in the securities litigation context?

Only actual ‘purchasers’ or ‘sellers’ of securities, as defined in the Exchange Act, have standing to assert section 10(b) claims. A decision not to engage in a securities transaction (ie, to hold the security) does not suffice. In addition, section 10(b) only imposes liability on individuals who satisfy each element of the claim, not those who may have aided or abetted such individuals (known as secondary violators). In 2019, however, the US Supreme Court called into question the dividing line between primary and secondary violators, holding that section 10(b) is sufficiently broad to include the dissemination of false or misleading information with the intent to defraud, even if the individual did not ‘make’ (have actual authority over) the statement (Lorenzo v SEC, 139 S. Ct. 1094 (2019)).

For section 11 and 12(a)(2) claims, a plaintiff may sue only if it acquires securities issued in the offering in which there was an allegedly false or misleading statement. Where claims are based on an untruth or omission in a registration statement, the plaintiff must show that it acquired its shares pursuant to that registration statement. The impact of this requirement in US direct listings, where both registered and unregistered shares may reach the public at the same time, is currently being considered by US courts (Pirani v Slack Techs, Inc, 13 F.4th 940 (9th Cir. 2021)).

Limitation period

What is the relevant period of limitation or repose? When does it begin to run? Can it be extended or shortened?

The statute of limitations is two years for section 10(b) claims and one year for section 11 and 12(a)(2) claims. A statute of limitations begins to run when a plaintiff actually discovered, or a ‘reasonably diligent plaintiff’ should have discovered, the facts constituting the violation. The limitations period may be extended for individual plaintiffs during the pendency of a class action under the Supreme Court-developed doctrine of ‘American Pipe’ tolling. This doctrine provides that, when a putative class action is filed, the running of the statute of limitations is suspended (‘tolled’) for all members of the proposed class until a decision is made whether to permit the case to proceed on a class-wide basis, or a plaintiff ceases to be a class member. 

In contrast to statutes of limitations, statutes of repose represent an ‘absolute’ bar on a plaintiff’s ability to commence litigation, and tolling does not apply (CalPERS v ANZ Securities, 137 S. Ct. 2042 (2017)). The applicable statute of repose is five years for section 10(b) claims and three years for section 11 and 12(a)(2) claims. A state of repose runs from the date of the ‘last culpable act’, regardless of when the plaintiff should have discovered the alleged misstatement or omission.

Law stated date

Correct on

Give the date on which the information above is accurate.

26 January 2021.