Securities Fraud
Class Action
“When talk is not cheap …”
Last updated 25 Jan 12
1. F: What are the facts in the case?
Basic
•
What allegations did the plaintiffs make?
•
What kind of suit is this? What do the plaintiffs seek?
•
Who are the defendants?
Inc. v. Levinson
(US 1988)
2. I: What is the issue that the Court addresses?
•
What are the arguments of the defendants?
•
What are the responses by the plaintiffs?
3. R: What is the definition of materiality adopted by the Court? The Court’s ruling?
•
What alternatives did the Court have in choosing a definition?
•
What is an "agreement in principle" definition? a "price and structure"
definition?
•
What is a "probability-magnitude" test? Is this how financial markets judge
information's materiality?
4. A: Why does the Court adopt a case-by-case definition of materiality?
•
Why does the Court reject the bright-line tests urged by the defendants?
•
What are the advantages and disadvantages of the Court's approach?
•
After this case, when should corporate executives disclose merger
negotiations?
5. C: What do you conclude about the case:
•
After this case, can corporate executives strategically misinform securities
markets about merger plans?
•
Can a corporation engage in material silence?
Basic Inc. v. Levinson
(US 1988)
Issue 1: Were statements about merger negotiations
"material"?
ND Ohio: NO - Merger negotiations were not certain to become
"agreement in principle"
Summary judgment for defendants (no trial)
6th Cir: YES - statements were misleading and material, since
denials were untrue
Reverse and remand (send case back for further
proceedings)
Sup Ct: PERHAPS - materiality depends on facts of case, factfinder must assess "probablity + magnitude"
Reverse and remand (send case to 6th Circuit for further
proceedings consistent with opinion / 6th Circuit will likely
remand case to trial court)
Basic Inc. v. Levinson
(US 1988)
Issue 2: Can plaintiffs' reliance be presumed when
misstatements are disseminated in public trading
market?
ND Ohio: YES - presumption of reliance when fraud on trading
market
Certify class action (common issues predominate over
individual issues)
6th Cir: YES - YES - fraud-on-market theory OK
Affirm
Sup Ct: YES - Presumption of reliance OK, based on fraud on
market theory
Affirm fraud-on-market theory OK (in dicta, court explains
how presumption might be rebutted)
Nature of
private securities fraud
class actions …
“King of Pain”
“Loathed
because
Curriculum
Vitae he's so mean,
because
he's so powerful,
• feared
1946:
born
in
working-class
Bill Lerach is the lawyer everyone in
Pittsburgh
Silicon
Valley hates.”
• 1970: U Pittsburgh law grad
• 1976: joins
Milberg
Weiss Sep.
(San 2000
Fortune
Magazine,
Diego)
•“"In
2004:
to Lerach
10 ormoves
15 years
you willCoughlin
be holding
another
Stoia Geller
hearing
Rudman
about&aRobbins
debacle in
the
(Sansecurities
Diego) market that will make
remember
therecovery
S&L mess
with
• you
2005:
$7.2
billion
in
Enron
fondness."
litigation ($45 over career)
• 2007: pleads guilty to obstruction
of
Bill Lerach,
justice
(later Milbergtestimony
Weiss) (1995)
congressional
• 2009: disbarred by California State
Bar
• 2010: released from prison / “Circle
of Greed” published
Federal Securities Fraud Class Action Litigation
(lawsuits filed)
Pre-Reform
Post-Reform
Stanford Class Action Clearinghouse
What is securities fraud action?
Securities Fraud Action
When we deal with private
actions under Rule 10b-5, we
deal with a judicial oak which
has grown from little more than
a legislative acorn.
Blue Chip Stamps v. Manor Drug
Stores (US 1975)
William Rehnquist
Securities Exchange Act of 1934
Section 10 -- Manipulative and
Deceptive Devices
It shall be unlawful for any person,
directly or indirectly, by the use of any
means or instrumentality of interstate
commerce or of the mails, or of any
facility of any national securities
exchange-(b) To use or employ, in
connection with the purchase or
sale of any security registered on a
national securities exchange or
any security not so registered …
any manipulative or deceptive
device or contrivance in
contravention of such rules and
regulations as the Commission
may prescribe as necessary or
appropriate in the public interest or
for the protection of investors.
Rule 10b-5
• Plaintiff
• Defendant
• Elements
–
–
–
–
–
–
Material
Misrepresentation
Scienter (intentional)
Reliance
Causation
Damages
• Transactional nexus
• Jurisdictional nexus
Compare to other private actions
Exchange Act
Securities Act
Rule 10b-5
§ 18(a)
§ 9(c)
§11
§12(a)(1)
§12(a)(2)
Fraud icw
purchase or
sale of
security
Materially
false
statement in
SEC filing
Specified
manipulative
practice
(pools, etc)
False
statement
in
registration
statement
Offer or sale
of
unregistered,
non-exempt
securities
Offer or sale
by means of
materially
false
prospectus
Class action counsel
(business model)
• Investigate corporate disclosures …
• … identify corporate “fiction” …
• … followed by “surprise” …
• … resulting in price drop …
• … identify “scienter” …
• … file complaint …
(e.g. Bay Networks, Inc)
• … which must tell “fraud story” …
• … to avoid “motion to dismiss”
Who pays?
Average settlement: $80 MM
Average attorney fees: 20%
2006 data
2004 data
2003 data
Atty fees
overview
Circularity …
Settlement
Holding shareholders
(losers!)
Insiders
(insider trading gains)
Corporate execs
(D&O insurance)
Buying shareholders
(plaintiffs)
Selling shareholders
(windfall winners!)
Payment
Corporation
The end
Class Counsel – Business Model
• Get started
– identify material corporate misrepresentations
– find appropriate shareholders to act as class representatives
– file a complaint in a court of class counsel’s choosing
• Take care of legalities
– defend the complaint against motion to dismiss (on legal
grounds)
– urge the judge to grant class action status to the litigation
– send notice to class members, giving them an option to
withdraw from the lawsuit
– undertake discovery of information from the company and
other sources
• Close the deal
–
–
–
–
enter into settlement negotiations with company officials
champion any settlement before the judge
administer settlement funds
appeal any adverse decisions by the trial court judge