Supreme Court Justices Signal Compromise on Securities Class Actions

By | March 18, 2014

U.S. Supreme Court justices on Wednesday appeared to look for a compromise that would give publicly traded companies better defenses against securities class actions without overruling a 26-year-old precedent that made it easier for plaintiffs to negotiate large settlements.

During an hour-long oral argument, a majority asked questions that suggested the nine-member court would be unwilling to overturn the 1988 decision, Basic v. Levinson. Conservative justices Anthony Kennedy, a regular swing vote, and Antonin Scalia both signaled interest in a compromise that would stop short of throwing out the earlier ruling while making it harder for plaintiffs to get past the preliminary class certification stage.

Such a ruling would be narrow and would not be as helpful to publicly traded corporate defendants as a decision overturning the 1988 precedent, which is one of the options before the court.

In 1988 the court embraced the “fraud on the market” theory. This assumes that public information about a company is known to the market – and plaintiffs do not have to show that they relied on a specific misrepresentation, only that they purchased shares before the truth came out.

The potential compromise mentioned by Kennedy and Scalia could come via an argument made in a friend-of-the-court brief filed in support of defendants by several law professors. Kennedy described the brief as a “midway position,” while Scalia said it could be viewed as “Basic, writ small,” in a reference to the 1988 ruling. The law professors say that plaintiffs should be required to show that the misrepresentation in question had a significant effect on the stock price.

Kennedy said the brief seemed to respond to some of the criticisms of “the economic premises of the Basic decision.”


It’s not clear how many of the other justices, including Chief Justice John Roberts, would support such an approach. The four justices on the liberal wing of the court all indicated varying degrees of support for the 1988 decision.

Justice Sonia Sotomayor, one of the liberals, questioned whether Kennedy’s proposed middle ground was anything but.

“I don’t see how this is a midpoint,” she said of the law professors’ brief.

Justice Department lawyer Malcolm Stewart, arguing in support of the plaintiffs, said he doubted the “consequences would be nearly so dramatic” if the court embraced the law professors’ position.

The brief the justices are believed to have been referring to was filed on behalf of Adam Pritchard of the University of Michigan Law School and Todd Henderson of the University of Chicago Law School.

Interviewed after the argument, Pritchard told Reuters he was advocating for a “refinement of Basic.” A ruling similar to his approach would make it harder for plaintiffs to get class certification but would not prevent them from doing so, he said. “I would not expect it to have a dramatic impact on the number of securities class actions.”

In his scenario, experts on both sides would submit “event studies” to the court that would show whether the misrepresentation substantially affected the stock price. If it did not, then defendants would benefit because it would suggest that the market did not rely on the misrepresentation, which could lead to class certification being denied, the law professors said.

The case before the court involves claims against energy giant Halliburton Co. Shareholders, led by the Erica P. John Fund Inc, sued the company in 2002, saying the company understated its asbestos liabilities while overstating revenues in its engineering and construction business and the benefits of its merger with Dresser Industries. Halliburton sought Supreme Court review after losing in lower courts.

The case is Halliburton v. Erica P. John Fund, U.S. Supreme Court, 13-317.

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