On March 5, the Supreme Court heard argument in Halliburton Co. v. Erica P. John Fund, Inc., No. 13-317 [an enhanced version of the Fifth Circuit opinion appealed from is available to lexis.com subscribers]. The case has the potential to rewrite the rules for how securities class actions are brought. This is the concluding segment of a three part series discussing the issues and arguments presented. Parts I and II, published earlier this week, reviewed, respectively, the arguments presented by Petitioners and Respondents. This part outlines the arguments presented, and key questions posed, by the Justices at oral argument.
Oral argument: At oral argument each party emphasized the key themes from their briefs while the Justices posed questions that at times sounded more like position statements. Petitioners argued that Basic should be overruled, contending that the fraud-on-the-market presumption is outmoded in view of recent scholarship and out-of-step with the Court’s current jurisprudence on Rule 23. While Petitioners conceded that generally information is translated into price, they argued that many traders do not specifically rely on the market. Alternatively, Petitioners advocated that at class certification plaintiffs should be required to prove the Basic elements and price impact.
Respondents defended Basic, arguing that under Amgen its presumption is not economics but a substantive provision of federal securities law. The decision is also consistent with the approach of the Court in Wal-Mart and Comcast, Respondents claimed, which contrasts with Respondents’ alternate theory that would require proof of a merits issue at certification.
The Government, arguing in support of Respondents, contended that investors do rely on the markets, contrary to Petitioners’ supposition, and that Basic is consistent with the Court’s recent jurisprudence on class certification. The Government did concede in response to questions from the Court that modifying the Basic approach to permit price information at certification would not have drastic consequences and may benefit plaintiffs.
Throughout the arguments members of the Court questioned the advocates, focusing repeatedly on three key points: 1) The impact of certification and that fact that few cases go to trial; 2) The effect of enacting the PSLRA and SLUSA after the Court’s decision in Basic; and 3) The prospect of requiring evidence of price impact through event studies at certification.
Petitioners: Petitioners focused on their key point: Basic “should be overruled because it was wrong when it was decided and it is even more clearly erroneous today. Basic substituted economic theory for the bedrock common law requirement of actual reliance . . . Basic’s judicially created presumption preserves an unjustified exemption from Rule 23 that benefits only securities plaintiffs . . . [it] has proven unworkable, has been undermined by later developments, and has proven to have harmful consequences for investors and companies alike.”
Justice Kagan sought to clarify Petitioners position asking if they were “saying that Basic is wrong, or are you saying that something has changed since Basic? Because usually that’s what we look for when we decide whether to reverse a case, something that makes the question fundamentally different now than when we decided it. And that’s especially so in a case like this one where Congress has had every opportunity, and has declined every opportunity, to change Basic itself.” Responding, Petitioners claimed that the Court has changed its approach to interpreting a Section 10(b) claim, that it has consistently held that presumptions are inappropriate at certification and that the “economics have changed.”
Subsequently, Petitioners agreed, under questioning from Justice Kagan, that market prices generally respond to new material information but contended that the “binary yes-or-no” approach is a problem. Justice Kagan disputed the characterization of “binary” choice. Justice Alito then turned the discussion to the question of whether in fact the Basic presumption is rebutted. Petitioners claimed that “it is virtually impossible,” a point which would later be termed “wrong” by Respondents.
Justice Ginsburg and Chief Justice Roberts shifted the argument to another issue. First, Justice Ginsburg noted that Petitioners claim is not focused on the ability to rebut the presumption but “when” – that is, at what point in the proceeding can the Basic presumption be rebutted. Petitioners retorted, arguing that “we are not aware of a single instance in which this Court allowed a presumption to be invoked for the very purpose of one stage of litigation, but held that the defendant’s right to rebut must be delayed to a latter state.”
The argument shifted again, this time to a key Petitioner point as Chief Justice Roberts focused on the contention that Basic is built on outdated science: “I understand your friend on the other side to acknowledge that the efficient market theory is not perfect . . . I understand you to acknowledge that it’s accurate to some extent, but that the exceptions . . override the extent to which it is. In other words, you’re each sort of dealing with at the—at the—if not the margins, you know, most of the time it’s sufficient, you say too much of the time it’s not. How am I supposed to review the economic literature and decide . . .” The Court “should get out of the business of reviewing economic literature . . . “ and make reliance an individual question as in Exchange Act Section 18(a), Petitioners responded.
Shifting to a topic which would thread through the remainder of the argument, Justice Kennedy raised what he called a “midpoint” — the use of event studies regarding price impact at certification suggested in an amicus brief — and asked Petitioners to comment on the notion. Petitioners allowed that if Basic remains “then it only makes sense to focus like a laser on the only relevant question, whether the misrepresentation distorted the market price.” The Second Circuit currently follows this practice the Court was told. The cost and difficulty of presenting such evidence would be about the same as for establishing the Basic requirements, Petitioners noted.
Petitioners’ concluded with an exchange involving Justices Breyer and Scalia on the propriety of requiring proof of price distortion at certification. When Justice Breyer questioned this approach, Petitioners argued that it is the same as requiring proof of market efficiency and publicity. Justice Scalia suggested that few cases get to the merits, prompting Justice Breyer to state that “I see that and I understand that. But that still strikes me as a different legal issue . . . I still have my question, why?”
Respondents: Respondents began by “emphasizing, as this Court did in Basic, that the premise of the Basic decision was not economic theory; it was commerce. This Court said the premise was Congress’s premise. And I think that when this Court decided the Amgen case, it said that the fraud on the market presumption was a substantive doctrine of Federal securities law. . . It has been ratified by Congress in the PSLRA and in SLUSA.” Justice Alito disputed this contention, reading Section 203 of the Act which says that “’Nothing in this Act or the amendments made by this Act shall be deemed to create or ratify any implied private right of action . . . ‘” After determining that Amgen did not cite that Section, Justice Scalia noted that a distinction must be drawn between situations when Congress acts “on the assumption that the courts are going to do what they’ve been doing . . . from approving what the courts have been doing.”
Justice Kennedy returned the discussion to his midpoint, inquiring why event studies could not be presented at certification. Respondents, disputing Petitioners’ claim that the burden would be about the same as establishing the Basic requirements, telling the Court “You could . . . “ but it has to be done for each date in the case and “it’s very expensive. It’s a lot of expert testimony. It is why these things, for example, at the summary judgment stage, are very complicated. Now, an event study that demonstrates the efficiency of the market is far simpler.” Justice Kennedy then reverted to the claim that Congress had essentially foreclosed overruling Basic, noting that “if later economic theories show that the market doesn’t react in the way Basic assumed it automatically did, then certainly Congress would not wish to foreclose the Court from considering that new evidence if it was a strong, clear and convincing, et cetera.”
Later Justice Kennedy again probed the underpinnings of Basic, inquiring about Petitioners’ contention that there is a “whole new genre of investors that are quite different from the fellow that’s sitting at home reading the Wall Street Journal [and relying on market price].” Allowing that Petitioners are correct, there are new types of investors, Respondents nevertheless told the Justice and the Court that “those people rely on the integrity of the market. They talk about these high-frequency traders that trade in and out. Well, if they trade in and out during a day, most of them will not be affected . . . Its only when somebody buys when the price is inflated . . .and then sells after the corrected disclosure that there is damage. These people are all buying and selling based on the integrity of the market price.”
This segment of the argument concluded with a reversion to familiar themes: The Basic presumption is rebuttable but most cases do not make it past certification. First Justice Ginsburg reiterated the rebuttable nature of the Basic presumption. Chief Justice Roberts then noted that “You [Respondents] don’t dispute, though that you usually don’t get to the merits stage once the class has been certified, do you?” Respondents replied “That is true . . . but a lot of that is because there are summary judgment motions. Remember, you have – you have three merit stages already, a pleading stage, which under the PSLRA, under this Court’s decision in Dura, is a real obstacle; second, you have summary judgment; and then third, you have the trial. More than half of all securities class actions, summary judgment is granted in whole or in part, 37 percent wholly, another 25 percent in part . . . [and] You could have summary judgment at the class certification stage . . . if you wanted to move price impact or materiality or any issue into an earlier time frame . . .” Justice Scalia then asked about Petitioners’ claim that certification is rarely denied prompting Respondents to state: “Well, I think he’s wrong.”
The Government: The Government attacked two key points presented by Petitioners. “First . . . that investors have adopted new strategies that, in his view, don’t rely on the integrity of the market price. And I think it’s certainly true that investors have devised a wide array of strategies in an effort to beat the market, but it’s hard to imagine one that would render irrelevant evidence that the market price had been distorted by fraud . . . The second thing I wanted to respond to was Petitioners’ assertion that Basic is out of keeping with this Court’s more recent decisions regarding the requirements of Rule 23. And I think that in fact, with – at least with respect to the interaction between the merits and Rule 23, the Court in Basic did precisely what this Court’s decisions in Wal-Mart and Comcast tell courts they out to do . . . “
The Government’s argument concluded with Justice Kennedy returning his midpoint regarding event studies and inquiring about the consequences of such a rule. The Government responded, noting that “I understand the . . . [proposal you are] referring to be the one that basically advocated a shift away from analyzing the general efficiency of the market and focusing only on the effect or lack of effect on the – particular stock. I don’t think the consequences would be nearly so dramatic. In fact if anything, that would be a net gain to plaintiffs, because plaintiffs already have to prove price impact at the end of the day.”
Rebuttal by Petitioners: In a brief rebuttal, Petitioners reiterated two key themes. First, that very few cases survive until summary judgment. Second, under their alternate proposal, a securities law plaintiff should have to prove at certification each of the Basic elements and price impact.
A decision from the Court is expected by the end of the term, June 30, 2014.
For more commentary on developing securities issues, visit SEC Actions, a blog by Thomas Gorman.
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