Last week, the Supreme Court heard oral arguments in Halliburton Co. v. Erica P. John Fund, Inc. In the class action suit, Halliburton shareholders allege that the company falsified its financial records and misled investors about its exposure to asbestos claims, among other charges. And once the facts came to light, investors allege, the value of their stock plunged.
At issue is the “fraud-on-the-market” presumption, which presumes that in an efficient market, share prices reflect information or misinformation that is available to the public. The presumption has allowed plaintiffs to maintain securities fraud suits without having to prove that each individual investor was personally misled by false statements.
The fraud-on-the-market presumption was accepted by the Court in a 1988 case, Basic Inc. v. Levinson, and U.S. Courts have relied on it for the past 25 years to certify securities class actions. In Basic, the Court explained that in efficient markets, material public information is reflected in the market price of a security and investors naturally rely on that price to make investment decisions. In other words, investors would not pay a price for a stock they knew to be artificially inflated. This presumption, the Basic court held, was “consistent with, and … supports congressional policy.”
But Halliburton is now asserting that the underlying economic theory behind the fraud-on-the- market presumption is wrong, and is asking the Supreme Court to overturn Basic. Should this happen, it would mark the end of securities class actions as we know them.
There’s a lot at stake here. If Basic were overturned, investors would be subjected to a nearly impossible burden of proof in order to file a securities lawsuit, and it would also be almost impossible for shareholders to bind together as a class. Instead each individual investor would need to prove that if she had know the truth, she would not have purchased the stock.
Consider the number of cases and the amount of investor money that could be lost if Basic is overturned. Last year, according to a recent report by economic consulting group NERA, 234 securities class actions were filed in federal court–a 10% increase over 2012. And in the past five years alone, the aggregate losses to investors in federal filings for alleged securities violations totaled $1.065 trillion.
Korein Tillery securities attorney Aaron Zigler noted “Without the Basic presumption, those who commit securities fraud will be nearly immune from the consequences. The laws regulating Wall Street will be meaningless when each individual investor must prove what information led them to buy.”
While a decision won’t be rendered until July, the plaintiffs’ bar is uneasy about how the justices will rule, especially given how friendly the Court has been to business.
A study published last April in the Minnesota Law Review examining how business fares in the Supreme Court found that out of the 36 justices who have presided over the Court since 1945, the two justices most likely to vote in favor of business interests are Chief Justice Roberts and Justice Alito.
The Court’s pro-business leanings are on full display in recent rulings on two major class actions. In 2011, the Court reaffirmed a lower court’s decision to deny class certification to a group of female employees who wanted to sue Walmart for pay discrimination. In Walmart v. Dukes, the High Court ruled that the putative class failed to show that evidence of wrongdoing was common to the group.
And last May, the Court threw out an antitrust class action against Comcast, the nation’s largest cable provider, on a similar argument, adding that the proposed two million-member class failed to demonstrate that damages could be measured on a class-wide, rather than an individual, basis.
But there may be a glimmer of hope for Halliburton. According to a story in Am Law’s Litigation Daily, the justices focused on a brief suggesting that plaintiffs be required to conduct an “event study” at the class certification stage to show that the company’s misstatements had a significant impact on its stock price.
While event studies aren’t an ideal solution–plaintiffs’ lawyer David Boies said in Court that they can be costly and complicated–it’s a better option than overturning Basic. If the justices permit an event study, although it will be more expensive and more complicated to prove, plaintiffs will be able to maintain a presumption that they relied on the misinformation and have the opportunity to show the case is suitable for class certification.
Follow this space for updates on Halliburton Co. v. Erica P. John Fund, Inc. and other class action related cases before the Supreme Court.
-Mary Ellen Egan