Article: September 2018: Securities & Structured Finance Litigation Update

U.S. Supreme Court Allows 1933 Act Securities Class Actions to Proceed in State Court, Continuing Trend of Strict Statutory Construction. Plaintiffs seeking to pursue securities misrepresentation claims under federal law can do so under either the Securities Act of 1933 (the “1933 Act”) or the Securities Exchange Act of 1934 (the “1934 Act”). Although 1933 Act claims can be brought only by purchasers of publicly-traded securities pursuant to a registration statement (which excludes secondary market purchasers) or those suing the direct seller, and have a short statute of limitations (one year after discovery of the misrepresentation or three years after the sale), they are more powerful than 1934 Act claims for plaintiffs who can assert them. Unlike misrepresentation claims under the 1934 Act, misrepresentation claims under the 1933 Act do not require proof of scienter or reliance and treat loss causation only as an affirmative defense (rather than requiring it as an element of the claim). In addition, claims under the 1933 Act can be brought in either state or federal court, whereas claims under the 1934 Act must be brought exclusively in federal court, where motions to dismiss are granted more frequently.

In Cyan, Inc. v. Beaver County Employees Retirement Fund, 138 S. Ct. 1061 (2018), the U.S. Supreme Court analyzed whether class actions asserting misrepresentation claims under the 1933 Act could proceed in either state or federal court in light of the Securities Litigation Uniform Standards Act (“SLUSA”) passed in 1988. SLUSA was intended to address plaintiffs’ attempts to circumvent the Private Securities Litigation Reform Act, passed three years earlier to prohibit “perceived abuses” in federal securities cases, by filing securities class actions in state court. SLUSA amended the 1933 Act and the 1934 Act to prohibit altogether any class action brought on behalf of more than 50 persons, referred to as “covered class actions,” asserting misrepresentation claims under state law in connection with a security listed on a national exchange. 15 U.S.C. § 77p. It also provided for the removal to federal court of any covered class actions brought in state court. Id. § 77p(c). Finally, SLUSA specifically made conforming amendments to the jurisdictional provisions of the 1933 Act allowing removal of certain covered class actions. The question posed in Cyan was whether this amendment divested state courts of their jurisdiction over covered class actions asserting misrepresentation claims under the 1933 Act, allowing removal to federal court.

In a unanimous opinion, the Supreme Court in Cyan strictly interpreted SLUSA to hold that state courts still have jurisdiction over covered class actions asserting 1933 Act misrepresentation claims exclusively and that defendants cannot remove such class actions to federal court. By its terms, SLUSA kept the 1933 Act’s existing jurisdictional framework “except as provided in section 77p of this title with respect to covered class actions.” The Supreme Court ruled that this text, “read most straightforwardly,” refers to Section 77p as a whole, rather than to the “covered class actions” definition of Section 77p, and therefore modified the 1933 Act’s jurisdictional provisions only with respect to covered class actions involving securities listed on a national exchange and asserting misrepresentation claims under state law.

The Supreme Court rejected legislative purpose and policy arguments that SLUSA must be interpreted to require covered class actions asserting 1933 Act misrepresentation claims to proceed in federal court because otherwise securities plaintiffs could still circumvent protections provided in federal court, and defendants would be faced with having to defend class actions arising from the same misrepresentations in both state and federal court. For example, if a publicly-traded company issued shares to an acquisition target’s shareholders in a merger pursuant to a registration statement with misleading financial statements, the target’s shareholders could pursue 1933 Act claims in state court, while the other shareholders in the secondary market would be required to pursue 1934 Act claims in federal court. This could result in two different courts deciding claims based on the same misrepresentations and reaching conflicting conclusions about the material misrepresentation. Faced with these types of arguments, the Supreme Court acknowledged that it did “not know why Congress declined to require that 1933 Act class actions be brought in federal court,” but stated that it “will not revise that legislative choice, by reading a conforming amendment and a definition in a most improbable way, in an effort to make the world of securities litigation more consistent or pure.” Cyan, 138 S. Ct. at 1073.

The Supreme Court’s decision in Cyan continues the Court’s application of strict statutory construction in securities cases, regardless of whether it benefits plaintiffs or defendants. For example, commentators view Cyan as a plaintiff-friendly decision, yet in California Public Employees’ Retirement System v. ANZ Securities, Inc., 137 S. Ct. 2042 (2017), decided the prior term, the Supreme Court issued a decision that was considered defense-friendly based on strict statutory construction. In ANZ, the Supreme Court followed the plain language of the 1933 Act, providing that “[i]n no event shall any such action be brought to enforce a liability created under [Section 11] more than three years after the security was bona fide offered to the public,” to hold that the statutory three-year time limit for filing lawsuits is a statute of repose, and therefore is not subject to the equitable tolling principles for statutes of limitations. Here again, the Court was unmoved by legislative purpose or policy arguments regarding the effects of its decision. For example, it held that even if its decision resulted in district courts being inundated with protective filings to preserve the statute of limitations for unnamed class members pending a class action, the Court “‘lack[s] the authority to rewrite’ the statute of repose or to ignore its plain import.” Id., 137 S. Ct. at 2053-54. Going forward, securities litigants can expect the Supreme Court to enforce securities laws as written and must rely on Congress for changes and reforms.