2011 Year-End Securities Law Compendium

Transcription

1 2011 Year-End Securities Law Compendium

2 TABLE OF CONTENTS PREFACE...1 I. SUPREME COURT...2 Page A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Loss Causation Pleading Standards for Securities Fraud Materiality Statute of Limitations...4 II. FIRST CIRCUIT...6 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Misstatements and Omissions Scienter Pleading Standards for Securities Fraud Class Certification...9 III. SECOND CIRCUIT...10 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Loss Causation Statute of Limitations Misstatements or Omissions Scienter Morrison / Extraterritorial Application Standing SLUSA Pleading Standards for Securities Fraud Reliance Materiality Definition of Underwriter Williams Act...28 IV. THIRD CIRCUIT...29 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Class Certification Pleading Standards for Securities Fraud...29 i

3 V. FOURTH CIRCUIT...31 A. NOTEWORTHY CASES DURING Loss Causation...31 VI. FIFTH CIRCUIT...32 A. NOTEWORTHY CASES DURING Pleading Standards for Securities Fraud...32 VII. SIXTH CIRCUIT...33 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Scienter Reliance...34 VIII. SEVENTH CIRCUIT...36 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Pleading Standards for Securities Fraud Scienter Misstatements and Omissions SLUSA Reliance Expedited Discovery under PSLRA...42 IX. EIGHTH CIRCUIT...43 A. NOTEWORTHY CASES DURING Scienter...43 X. NINTH CIRCUIT...44 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Pleading Standards for Securities Fraud Loss Causation Misstatements and Omissions SLUSA Control Person Liability Scienter Materiality Class Certification...57 ii

4 XI. TENTH CIRCUIT...59 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Scienter Misstatements and Omissions Class Certification Morrison / Extraterritorial Reach SLUSA...63 XII. ELEVENTH CIRCUIT...64 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Scienter Pleading Standards for Securities Fraud Loss Causation Misstatements and Omissions...66 XIII. DELAWARE COURTS...68 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Fiduciary and Revlon Duties Fiduciary Duty: State Insider Trading Claim Books and Records Inspection Breach of Contract Business Judgment Rule / Entire Fairness Poison Pill and Other Defensive Measures Misstatements and Omissions Materiality Other...76 XIV. SECURITIES AND EXCHANGE COMMISSION ENFORCEMENT CASES...78 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY CASES DURING Pleading Standards for Securities Fraud Scienter Statute of Limitations Venue Subject-Matter Jurisdiction Misstatements and Omissions Insider Trading Other...83 iii

5 XV. SEC RULES AND GUIDANCE...84 A. SUMMARY OF DEVELOPMENTS DURING B. NOTEWORTHY RULES AND GUIDANCE ISSUED BY THE SEC DURING SEC Adopts Rules To Establish Whistleblower Program SEC Approves FINRA s All-Public Arbitration Panel Rule SEC Approves Compensation Rules SEC Approves Rule Change for FINRA Arbitration Docs SEC, CFTC Define Responsibility for Swap Coverage SEC Approves Facilities To Shine Light on Swap Trading SEC Inks Sweeping Hedge Fund Adviser Rules SEC Advances New Conduct Rules for Swap Markets SEC Approves New Rules on Large-Trader Reporting SEC Advances Proposed Volcker Rule SEC Locks In New Private Fund Reporting Rules SEC Tightens Standards for Reverse Merger Listings...87 XVI. DEVELOPMENTS WITH THE PUBLIC COMPANY ACCOUNTING OVERSIGHT BOARD DURING A. SUMMARY OF DEVELOPMENTS DURING B. NOTABLE RELEASES DURING PCAOB Enters into Cooperative Agreement with the UK Audit Regulator PCAOB Issues Research Note on Chinese Reverse Mergers PCAOB Enters into First Cooperative Agreement with Swiss Regulators PCAOB Publishes Staff Audit Practice Alert on Audit Risks in Certain Emerging Markets PCAOB Enters into Cooperative Agreements for the Exchange of Confidential Information with Authorities in Israel and Dubai PCAOB Enters into Cooperative Arrangement with Taiwan PCAOB Publishes Staff Audit Practice Alert on Assessing and Responding to Risk in the Current Economic Environment...90 C. NOTABLE DISCIPLINARY PROCEEDINGS DURING In the Matter of Price Waterhouse, Bangalore, Lovelock & Lewes, Price Waterhouse & Co., Bangalore, Price Waterhouse, Calcutta, and Price Waterhouse & Co., Calcutta, PCAOB Release No (Order Instituting Disciplinary Proceedings, Making Findings and Imposing Sanctions) PCAOB Announces Settled Disciplinary Orders Against Former Ernst & Young Partner and Senior Manager For Providing Misleading Documents to PCAOB Inspectors And Altering Working Papers...91 iv

6 3. In the Matter of Bentleys Brisbane Partnership and Robert John Forbes, CA, PCAOB Release No (Order Instituting Disciplinary Proceedings, Making Findings and Imposing Sanctions)...91 v

7 PREFACE Latham & Watkins Securities Litigation and Professional Liability Practice presents its annual Year-End Securities Law Compendium. The 2011 Compendium highlights noteworthy trends from the past year in the areas of federal securities law, Delaware corporate litigation, and SEC and PCAOB enforcement activity and rule-making. All told, the 2011 Compendium contains: Over 100 case summaries from the US Supreme Court and every federal circuit in the US; Summaries of more than 25 decisions from the Delaware state courts; and Over 30 summaries of SEC enforcement actions and PCAOB disciplinary proceedings, as well as key releases and guidance issued by the SEC and PCAOB. Latham s Securities Litigation and Professional Liability lawyers closely monitor developments in these areas throughout the year, circulating concise summaries of all noteworthy decisions and news on a real-time basis. Every year, we compile the most important of these summaries into the Compendium. We present this document as a valuable resource for practitioners and organizations involved or interested in securities litigation and enforcement. Highlights from the Supreme Court and each circuit, as well as Delaware and the enforcement agencies, are discussed at the outset of each section. The Supreme Court was particularly active in securities litigation in During the year, the Supreme Court issued three important securities law decisions Erica P. John Fund, Inc. v. Halliburton Co.; Janus Capital Group Inc. v. First Derivative Traders; and Matrixx Initiatives, Inc. v. Siracusano all of which are summarized below. The Compendium also tracks trends, circuit-by-circuit, in a variety of substantive areas arising out of shareholder class actions, M&A litigation, enforcement matters and other federal cases. The Compendium provides insight into the cases arising out the financial crisis, as those cases continue to work their way through the federal courts. The regulatory section of the Compendium highlights developments with respect to the SEC s new whistleblower program, its creation of Dodd-Frank regulations, and tightened standards and releases issued by the SEC and PCAOB with respect to reverse mergers. If you would like to discuss the Compendium, or learn more about Latham s Securities Litigation and Professional Liability Practice, please contact one of the editors listed below, any member of the group or your lawyer contact at the firm. For a global roster of our Securities Litigation and Professional Liability Practice, please visit the firm s website at Robert J. Malionek robert.malionek@lw.com New York Kevin M. McDonough kevin.mcdonough@lw.com New York Jennifer Greenberg jennifer.greenberg@lw.com New York 1

8 I. SUPREME COURT A. SUMMARY OF DEVELOPMENTS DURING 2011 During 2011, the Supreme Court decided three important securities class action cases: Erica P. John Fund; Inc. v. Halliburton Co., Janus Capital Group Inc. v. First Derivative Traders; and Matrixx Initiatives, Inc. v. Siracusano. In Halliburton, the Court provided important guidance on class certification issues, holding that plaintiffs are not required to prove loss causation in order to avail themselves of the fraud-on-the-market presumption of reliance. In Janus, the Court held that a person cannot be liable in a private securities action for making a misleading statement or omission unless he or she had ultimate control over the statement, including its content and whether and how to communicate it. The Court clarified that one who prepares or publishes a statement on behalf of another is not its maker. Lastly, in Matrixx, the Court rejected a bright-line rule of materiality based on statistical significance. In early 2012, the Court issued a decision in Simmonds v. Credit Suisse Securities (USA) LLC, holding that Section 16 s two-year statute of limitations period is not tolled until the insider discloses his transactions in a Section 16(a) filing, where the plaintiff knew or should have known of the alleged fraud prior to such disclosure. B. NOTEWORTHY CASES DURING Loss Causation a. Erica P. John Fund, Inc. v. Halliburton Co., 131 S. Ct (2011) Plaintiff investment fund filed suit against defendant oilfield services company on behalf of all investors who purchased defendant s stock between June 1999 and December Plaintiff alleged that defendant had deliberately made false statements about the scope of its potential liability in pending asbestos litigation, expected revenue from construction contracts and the benefits of its merger with an energy services company. Investors allegedly suffered losses when defendant made a series of corrective disclosures that caused its stock price to fall. The district court denied defendant s motion to dismiss in full. The court refused to certify the putative class, however, because plaintiff could not prove a causal connection between the alleged misrepresentations and the economic loss suffered by investors, a requirement known as loss causation, and thus was not entitled to the fraud-on-the-market presumption of reliance. The Fifth Circuit affirmed and ruled that for the lawsuit to proceed as a class action, plaintiff would have to prove at the outset that the revelation of the alleged misrepresentations caused the stock price to fall, resulting in investor losses. The Supreme Court granted certiorari to address whether plaintiffs in securities fraud actions must establish loss causation at class certification by a preponderance of admissible evidence without merits discovery. The Supreme Court rejected the notion that plaintiffs must prove loss causation in order to establish the fraud-on-the-market presumption of reliance and therefore overturned the Fifth Circuit s ruling. The Court explained that reliance and loss causation are separate elements of a 2

9 securities fraud claim. Reliance means that plaintiff s decision to purchase shares was based on the misrepresentation. The fraud-on-the-market presumption of reliance posits that, in an efficient market, public statements about publicly traded companies are reflected in share prices, thus giving rise to a presumption that investors rely on public statements when purchasing or selling securities. The element of loss causation, by contrast, requires that the reduced share prices causing plaintiff s losses resulted from the correction of an alleged misrepresentation. According to the Court, whether a loss occurred for reasons other than the revelation of a misrepresentation is a different issue from whether the investor relied on the misrepresentation in the first place. The Court remanded the case to the Fifth Circuit for further proceedings, including any further arguments against class certification. 2. Pleading Standards for Securities Fraud a. Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct (2011) Plaintiff investment fund filed suit against a mutual fund holding company and its subsidiary investment services company. The holding company created a family of mutual funds operated by an independent company wholly owned by mutual fund investors. The investment services company provided advisory and administrative services to the mutual fund company. In a series of prospectuses, the mutual fund company stated that the investment services company would ensure that mutual fund investors did not employ market-timing strategies to the injury of other investors. Later, the New York Attorney General accused the mutual fund company and the investment services company of entering into secret agreements to permit market-timing trading. Investors withdrew large amounts of money from the mutual fund company, causing the investment services company to lose significant fees. Because the investment services company accounted for the majority of the mutual fund company s revenue, the corporation s stock lost nearly 25 percent of its value. Plaintiff sued, alleging that the investment services company made false statements in the mutual fund company s prospectuses. The district court dismissed the complaint for failure to state a claim. The Fourth Circuit reversed, concluding that defendants, by participating in the writing and dissemination of the prospectuses, made the misleading statements in the documents. The Supreme Court granted certiorari. In a 5-4 decision, the Supreme Court overturned the Fourth Circuit ruling. Section 10(b) of the Exchange Act and Rule 10b-5 make it unlawful for persons and entities to make any untrue statement of a material fact. The Court held that the investment services company did not make the statements in the prospectuses issued by the independent mutual fund company, and thus was not liable under Section 10(b) and Rule 10b-5. The Court explained that the maker of a statement is the person or entity with ultimate control over the statement, including its content and whether and how to communicate it. Analogizing to the relationship between a speechwriter and a speaker in which both credit and blame fall on the speaker the Court clarified that one who prepares or publishes a statement on behalf of another is not its maker. The Court acknowledged that the close relationship between the investment services company and the mutual fund company extended to the drafting of the prospectuses, but nonetheless held 3

10 that the formal separation of the entities meant that the statements were made by the mutual fund company alone. The dissent objected to the majority s narrow definition of make and concluded that, because of the close relationship between the investment services company and the mutual fund company, the investment services company made the misleading statements contained in the mutual fund company prospectuses. 3. Materiality a. Matrixx Initiatives, Inc. v. Siracusano, 131 S. Ct (2011) Plaintiff shareholders filed a lawsuit under Section 10(b) of the Exchange Act, alleging that Matrixx, the producer of the cold remedy Zicam, made statements about the company s future profitability that were rendered misleading by Matrixx s knowledge of reports and lawsuits claiming that Zicam caused anosmia (the loss of the sense of smell). Matrixx moved to dismiss, arguing that incidents of Zicam-linked anosmia were statistically insignificant, and thus immaterial. Matrixx also argued that plaintiffs failed to allege scienter properly because Matrixx had no knowledge of a statistically significant number of adverse medical reports. The district court dismissed the lawsuit; the Ninth Circuit reversed. On appeal, the Supreme Court affirmed, rejecting Matrixx s arguments and declining to draw a bright-line rule of materiality based on statistical significance. Instead, the Court concluded that the context of the reports and lawsuits was such that a reasonable investor might find them material, and thus plaintiffs adequately alleged that Matrixx s statements were materially misleading. Given the nature of the reports of anosmia and the actions that Matrixx took to protect its product in the face of negative reports, the Court held that plaintiffs adequately alleged scienter. 4. Statute of Limitations a. Credit Suisse Securities (USA) LLC et al. v. Simmonds, 132 S. Ct (2012) Plaintiff filed suit against the underwriters of various IPOs, claiming that they employed mechanisms to inflate the aftermarket price of the issued stock, creating short-swing profits, and triggering Section 16(b) of the Exchange Act. Defendants claimed the suit was untimely because Section 16(b) s two-year statute of limitations had run out. Plaintiff claimed the statute was tolled because the underwriters were subject to, and failed to comply with, Section 16(a) s reporting requirements. Defendants argued that Section 16(b) s limitations period is a statute of repose which does not toll. The district court dismissed plaintiff s complaint on the ground that Section 16(b) s two-year statute of limitations had expired. The Ninth Circuit reversed, holding that the Section 16(b) limitations period does not establish a period of repose but is tolled until the insider discloses his transactions in a Section 16(a) filing, regardless of whether the plaintiff knew or should have known of the conduct at issue. The Supreme Court was equally divided four to four (with Chief Justice Roberts not participating) on the issue of whether Section 16(b) establishes a period of repose, and thus is not subject to any tolling whatsoever. However, in a unanimous decision, the Court reversed the Ninth Circuit, and held that, even assuming Section 16(b) s 2-year period is a statute of 4

11 limitations (not a statute of repose), the Ninth Circuit erred in determining that the 2-year period is tolled until a Section 16(a) statement is filed. In support of its holding, the Court looked to the language of Section 16(b), which states that the two-year clock starts from the date such profit was realized and found that the Ninth Circuit s rule should not apply because it conflicts with long-settled equitable-tolling principles. In a concealment-of-fraud case, the Court noted, the statute of limitations does not begin to run until discovery of the fraud where the party injured by the fraud remains in ignorance of it without any fault or want of diligence on his part. The Court stated that allowing tolling to continue beyond discovery of the fraud, which would be the result of the Ninth Circuit s holding, is inequitable and inconsistent with the purpose of statutes of limitations to protect defendants against stale or unduly delayed claims. The Court remanded the case for the lower courts to apply the standard rules of equitable tolling. 5

12 II. FIRST CIRCUIT A. SUMMARY OF DEVELOPMENTS DURING 2011 The First Circuit and the District of Massachusetts issued several notable decisions during In City of Dearborn Heights Act 345 Police & Fire Retirement System v. Waters Corp., the First Circuit affirmed a lower court s dismissal of securities fraud on the ground that plaintiffs had not adequately alleged scienter. The court held that a water purification producer and its directors were reasonable in their belief that a change in Japanese water regulations would not materially impact sales, and that defendants low volume of stock trades below the stock s annual high was not evidence of scienter. The District of Massachusetts analyzed the impact of a class action lawsuit on claims brought by investors who had opted out of the class in Special Situations Fund III, L.P. v. American Dental Partners, Inc. Although the court rejected plaintiffs argument that their complaint must survive defendant s motion to dismiss because another district court denied defendant s motion to dismiss a virtually identical class action complaint, the court nonetheless found that the complaint satisfied the Private Securities Litigation Reform Act s (PSLRA) particularity requirement despite the complaint s verbatim repetition of the allegations in the class action complaint. In Hill v. State Street Corp., the District of Massachusetts denied a bank s motion to dismiss, holding that plaintiffs adequately alleged scienter and materially misleading statements related to foreign exchange transactions and the bank s holdings of residential mortgage-backed securities. The District of Massachusetts also rejected a summary judgment motion brought by defendant investment analysts in In re Credit Suisse-AOL Sec. Litig. In that case, the court concluded that there were disputed issues of fact as to whether the defendants intentionally omitted negative information from their research reports and whether the plaintiffs suffered losses based on their reliance on those reports. B. NOTEWORTHY CASES DURING Misstatements and Omissions a. Hill v. Gozani, 651 F.3d 151 (1st Cir. 2011) Plaintiff pension fund brought claims under Sections 10(b)(5) and 20(a) in a consolidated class action against a medical device manufacturer and its officers, alleging defendants understated the risk that insurers would not sustain prevalent reimbursement rates for procedures involving a company device. The First Circuit initially affirmed the District Court s dismissal for failure to state a claim, despite acknowledging the materiality of the company s reimbursement experts warning that current billing practices were fraudulent. The First Circuit ruled that the company adequately disclosed the risk of an uncertain reimbursement landscape and that the company was under no obligation to disclose internal disagreement regarding strategy. Following the Supreme Court s decision in Matrixx Initiatives, Inc. v. Siracusano, which refined the analysis of material misrepresentations, plaintiff appealed. The First Circuit again affirmed the dismissal, finding its earlier decision consistent with Matrixx. The court noted that whereas defendants in Matrixx had blatantly discredited, without basis, material adverse information, defendants in the present action lacked factual support for the adverse internal expert opinions, and thus were under no duty to disclose them. 6

13 b. Hill v. State Street Corp., 2011 WL (D. Mass. Aug. 3, 2011) Plaintiffs, institutional investors and members of an employment benefit plan, filed two consolidated class actions against defendant investment bank and its directors, officers, auditors, and underwriters, alleging that the bank issued misleading statements regarding its positions in residential mortgage-backed securities (RMBS) positions and foreign exchange practices in violation of (i) Sections 11, 12 and 15 of the Securities Act, (ii) Sections 10 and 20 claims under the Exchange Act, and (iii) ERISA. Specifically, the securities plaintiffs alleged that defendants misled investors during a public offering regarding the bank s foreign exchange profits and failed to disclose that it charged its customers the highest daily foreign exchange rate instead of the rate at which the bank executed its foreign exchange trades. Defendants also allegedly misled investors by repeatedly touting their high quality assets during the collapse of the subprime RMBS market. The ERISA plaintiffs alleged that defendants breached fiduciary duties by imprudently offering the defendant bank s stock as an investment option to benefit plan participants. The district court denied defendants motions to dismiss, finding that plaintiffs presented sufficient evidence, including material compiled during an 18-month investigation conducted by the California Attorney General, to support plausible theories of fraud and misleading statements. Moreover, the court held that the misleading statements were material regardless of the size of the foreign exchange markup because the fraud, if disclosed, would cause significant reputational harm to the bank. Regarding the bank s RMBS exposure, the court could not conclude as a matter of law that the phrase high quality referred solely to the credit risk of the bank s assets, as defendants had argued, and not to indicators such as likelihood of default or future mark-to-market losses, in which contexts the statement would be misleading. Finally, the court rejected defendants motions to dismiss ERISA claims, finding plaintiffs sufficiently alleged that the bank s stock represented an imprudent investment option in the benefits plan. c. In re Credit Suisse-AOL Sec. Litig., 2011 WL (D. Mass. Aug. 26, 2011) Plaintiff shareholders commenced claims under Sections 10(b) and 20(a) of the Exchange Act against an investment bank, its subsidiary, and four analysts employed by the subsidiary to provide investment research coverage on the merger of two technology companies. Plaintiffs alleged that defendants ignored material information regarding the financial future of the merging companies when formulating investment recommendations in order to obtain increased investment banking business from the merged companies. The district court denied defendants motions for summary judgment, finding that plaintiffs presented sufficient evidence to allow a jury to conclude that defendants issued misleading statements regarding the prospects of the merged companies. The court noted that internal s acknowledged defendants misstatements, agreed that material information was omitted, and even conceded that defendants possessed an ulterior motive for failing to disclose the information. Moreover, although defendants were analysts (and not issuers of securities), and numerous analysts had also opined on the financial health of the tech companies, the court found that plaintiffs expert testimony presented disputed issues of fact regarding plaintiffs reliance on the defendants recommendations and the impact of those recommendations on plaintiffs losses. 7

14 2. Scienter a. City of Dearborn Heights Act 345 Police & Fire Ret. Sys. v. Waters Corp., 632 F.3d 751 (1st Cir. 2011) Plaintiff pension fund asserted claims under Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 against defendant water purification instrument systems producer and its directors, alleging defendants concealed a Japanese regulatory relaxation, which impacted sales. The First Circuit affirmed the lower court s dismissal and ruled that, regardless of defendants knowledge of the regulatory change, defendants reasonably believed the change would have no material effect on global sales. The court further rejected plaintiff s insider trading scienter argument, finding that (i) plaintiff failed to allege unusual trading activity and (ii) the small volume of trades at a price well below the annual peak did not create inference of scienter. b. Miss. Public Employees Retirement Sys. v. Boston Scientific Corp., 649 F.3d 5 (1st Cir. 2011) Plaintiff pension fund asserted claims under Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 against defendant medical device manufacturer alleging that defendant misled investors about the risk that manufacturer would be required to recall a stent device. The First Circuit affirmed the district court s decision granting defendant s motion for summary judgment because, as the district court found, plaintiffs could not point to a material issue of disputed fact regarding defendant s scienter. In particular, the court found that although defendant knew that it was contemplating a modification of the stent device to address publicly known complaints regarding stent deployment plaintiff did not provide sufficient evidence to support an inference that defendant knew that deployment complications threatened the product s commercial viability, and hence the company s stock price. 3. Pleading Standards for Securities Fraud a. Special Situations Fund III, L.P. v. American Dental Partners, Inc., 775 F. Supp. 2d 227, 2011 WL (D. Mass. Mar. 31, 2011) Plaintiff investment partnerships opted out of a class action lawsuit and brought independent claims under Rule 10b-5 and Sections 10(b), 18 and 20(a) of the Exchange Act against defendant dental management service provider, alleging defendant misrepresented the merits of a pending contract dispute with its most significant client. The district court denied defendant s motion to dismiss in part, finding that defendant knowingly misrepresented that its conduct toward the client had not changed at all over the course of their relationship. As an initial matter, the court rejected plaintiffs argument that their complaint must survive defendant s motion to dismiss because another district court denied defendant s motion to dismiss a virtually identical class action complaint. The court nonetheless found that the complaint was sufficiently pled to withstand a motion to dismiss. In reaching that conclusion, the court rejected defendant s argument that the complaint failed to satisfy the PSLRA s particularity requirements merely because it copied verbatim the class action allegations. Further, the court found that plaintiffs adequately alleged materiality because the service 8

15 provider s press releases, conference calls, and public filings demonstrated significant investor interest in the merits of the lawsuit. Finally, plaintiffs sufficiently pled loss causation on the basis of inflated stock prices leading up to jury verdicts that awarded over $130 million to the client and revealed the truth about the lawsuit s merit. The court dismissed plaintiffs Section 18 claims as time-barred, finding that the class action complaint, which had alleged only Section 10(b) and 20(a) claims, did not toll plaintiffs Section 18 claims. 4. Class Certification a. In re Evergreen Ultra Short Opportunities Fund Sec. Litig., 2011 WL , 275 F.R.D. 382 (D. Mass. Aug. 10, 2011) Plaintiff shareholders brought several class actions alleging violations of Sections 11, 12 and 15 of the Securities Act against defendant mutual fund and its directors, officers, investment advisor and underwriter. Specifically, plaintiffs alleged that defendants invested the fund s assets in a greater proportion of illiquid securities and riskier-than-represented mortgage-backed securities, and artificially inflated the fund s net asset value by misstating the value of these illiquid assets. The district court granted class certification, finding that lead plaintiffs possessed standing despite acquiring their shares at least 15 months after the start of the proposed class period because the offering materials at the beginning of the class period were alleged to be part of a common, fraudulent scheme that continued when lead plaintiffs acquired shares. The court also rejected defendants argument that lead plaintiffs claims were atypical of the proposed class because, unlike the remaining class members, lead plaintiffs acquired their shares automatically pursuant to a merger, and thus could not rely on a fraud-on-the-market theory. The court ruled that the Rule 23(a) typicality requirement was satisfied because the fraud-on-themarket theory was relevant to fraud cases brought under the Exchange Act but not to Securities Act claims. Finally, the court found that lead plaintiffs adequately represented the interests of the class, even though the class included members who both benefited from and were harmed by the mis-pricing of the fund s net asset value. 9

16 III. SECOND CIRCUIT A. SUMMARY OF DEVELOPMENTS DURING 2011 In 2011, the Second Circuit and the Southern District of New York continued to grapple with shareholder class actions arising out the financial crisis, frequently finding that plaintiffs allegations were insufficient to satisfy the heightened pleading requirements of the PSLRA. Courts in the Second Circuit also issued noteworthy decisions concerning opinion statements, materiality and the Supreme Court s recent Janus decision. In Amorosa v. AOL Time Warner Inc., the Second Circuit affirmed the district court s finding that plaintiff failed to establish loss causation where the price of the security in question increased between the time of defendant s alleged misstatement and the date when the suit was filed. The court also affirmed the district court s decision to impose sanctions on plaintiff s counsel for failure to adhere to Rule 11. In City of Pontiac General Employees Retirement System v. MBIA, Inc., the Second Circuit applied the Supreme Court s decision in Merck & Co. v. Reynolds, 130 S. Ct (2010), and reversed the district court s dismissal of plaintiffs Section 10(b) and Rule 10b-5 claims as untimely. The court explained that, under Merck, the statute of limitations does not begin to run until a reasonable investor conducting a timely investigation could have discovered facts constituting a violation. A fact is not discovered until a reasonably diligent plaintiff would have enough information about the fact to plead it in a complaint adequately enough to survive a Rule 12(b)(6) motion to dismiss. In In re Lehman Brothers Mortgage-Backed Securities Litigation, the Second Circuit rejected plaintiffs attempts to expand the Section 11 definition of underwriter, holding that ratings agencies were not underwriters for Section 11 purposes because they did not directly participate in the purchase or sale of securities. In Fait v. Regions Financial Corp., the Second Circuit addressed the standard for pleading falsity of opinion statements, and affirmed the district court s decision to dismiss the complaint because plaintiff failed to allege that defendants did not truly hold the opinions that plaintiffs attacked in their complaint. The Second Circuit also affirmed the district court s dismissal of the complaint in Wilson v. Merrill Lynch & Co., finding that plaintiffs failed adequately to allege that defendants manipulated the market for auction rate securities (ARS). Finally, in Hutchinson v. CBRE Realty Finance Inc., seeking to reconcile its divergent holdings in ECA & Local 134 IBEW Joint Pension Trust of Chicago v. JP Morgan Chase Co., and Litwin v. Blackstone Grp., L.P., the Second Circuit held that materiality depends upon whether the assets at issue comprised more than 5% of a part of the business in total, or more than 5% of a part of the business with particular importance to investors. The Southern District addressed numerous cases involving mortgage-backed securities (MBS) and ARS. In particular, the court dismissed Section 10(b) and Rule 10b-5 claims relating to MBS and other real estate assets in In re State Street Bank & Trust Co. Fixed Income Funds Investment Litigation (insufficient allegations of loss causation), In re Barclays Bank PLC Securities Litigation (expiration of the statute of limitations), and Footbridge Ltd. Trust v. Countrywide Financial Corp. (expiration of the statute of repose). The court dismissed similar claims relating to ARS in In re Citigroup, Inc. and In re MRU Holdings Securities Litigation, where plaintiffs failed to allege misstatements or omissions with sufficient particularity. In In re 10

17 Optimal U.S. Litigation, the Southern District analyzed the Supreme Court s decision in Janus Capital Group v. First Derivative Traders and held that a parent company owning a 100% interest in a subsidiary was not liable for its subsidiary s statements. B. NOTEWORTHY CASES DURING Loss Causation a. Amorosa v. AOL Time Warner Inc., No. 09-cv-5270, 2011 WL (2d Cir. Feb. 2, 2011) The Second Circuit affirmed the judgment of the Southern District of New York granting defendant auditor s motion to dismiss and imposing sanctions on plaintiff s counsel. The court rejected plaintiff s claim that the district court erred in dismissing his claims under Sections 14 and 10(b) of the Exchange Act for failing to adequately plead loss causation. Because plaintiff s complaint failed to identify specifically any misstatements or omissions and, in turn, the risk that was thereby concealed, plaintiff failed to establish loss causation on a materialization of the risk theory. The Second Circuit agreed with the district court s finding that plaintiff s claim under Section 11 of the Securities Act, in addition to being time-barred, failed for lack of loss causation. Defendant s alleged misstatement could not have resulted in any losses because the price of the securities went up between the time of the misstatement and the date plaintiff filed suit. The court affirmed the district court s ruling that plaintiff, a mere holder of securities, lacked standing to bring a Rule 10b-5 claim. The court further held that plaintiff s state law claims were preempted by the Securities Litigation Uniform Standards Act (SLUSA), and thus were properly dismissed by the district court. Lastly, the court affirmed the district court s imposition of sanctions against plaintiff s counsel pursuant to the PSLRA, which permits the granting of sanctions if the court determines, as it did here, that Rule 11 of the Federal Rules of Civil Procedure was violated. b. In re Moody s Corp. Sec. Litig., No. 07-cv-08375, 2011 WL (S.D.N.Y. Mar. 31, 2011) The Southern District of New York denied plaintiffs motion for class certification in a securities fraud class action against defendant rating agency for allegedly making material misrepresentations and omissions concerning the conflict of interest in its issuer-pays rating business model and its rating methodologies. The court agreed with defendant that two of the proposed lead plaintiffs could not serve as class representatives because they sold their stock prior to the first corrective disclosure. Because their alleged loss was therefore not caused by a materialization of the concealed risk, proposed lead plaintiffs could not demonstrate loss causation. The court found that the third proposed lead plaintiff could adequately represent the class, despite having purchased defendant s stock after the action was commenced, because the decision to purchase shares after a fraud is revealed does not automatically give rise to a presumption of non-reliance. However, class certification was nevertheless denied because plaintiffs failed to satisfy their burden of showing that questions of reliance common to all members of the class predominated. Defendant successfully rebutted the fraud-on-themarket presumption of reliance set forth in Basic v. Levinson by showing that the alleged misrepresentations did not lead to a distortion in price. The court further held that plaintiffs were 11

18 not entitled to the presumption of reliance on omissions set forth in Affiliated Ute Citizens v. United States because this presumption neither applies to misleading statements that leave investors with overall false impressions, nor to omissions that simply exacerbate the misleading nature of the alleged conduct. c. In re Security Capital Assurance Ltd Sec. Litig., No. 07-cv-11086, 2011 WL (S.D.N.Y. Sept. 23, 2011) Plaintiff investor brought claims under Sections 10(b) and 20(a) of the Exchange Act, claiming that defendant financial guaranty services corporation reported financial information on the basis of inaccurate FICO scores and that its statements concerning internal risk modeling were based on rating agency data, and thus not independent. The Southern District of New York granted the defendant s motion to dismiss and denied plaintiff s request for leave to amend because plaintiff could not adequately plead loss causation. Plaintiff argued that defendant s disclosure of the worsening stock market and its weakened portfolio was a corrective disclosure that resulted in a decrease in the defendant s stock price. The court disagreed, holding that the defendant s disclosures merely represented that the defendant was grappling with market forces beyond [its] understanding and failing to recognize the enormity of [its] own incompetence, and was not making the types of corrective disclosures or revelations of concealed information that generally form the basis of loss causation claims. Moreover, none of the alleged disclosures directly related to the use of FICO scores or ratings agency data. Lastly, plaintiff was unable to disaggregate the losses that were allegedly suffered as a result of the misstatements from the losses suffered due to the overall worsening of the economic climate. d. Fixed Income Funds Inv. Litig., 774 F. Supp. 2d 584 (S.D.N.Y. 2011) Plaintiff investors brought a putative class action against defendant mutual fund and several of its individual officers, asserting violations of Sections 11, 12(a)(2) and 15 of the Securities Act. Plaintiffs alleged the mutual fund s offering documents had misrepresented the percentages of mortgage-backed securities held by the fund, overstated the values of the riskier mortgage-backed securities, and had misstated the objectives of the fund to invest in diversified, liquid, and high-quality offerings. The Southern District of New York dismissed the case with prejudice, finding that plaintiffs could not establish loss causation. Plaintiffs, relying on several cases from other jurisdictions, had argued that the misrepresentations disguised a risk that the market value of the mortgage-backed securities would suddenly collapse. Plaintiffs argued that the value of the mutual fund declined when that risk materialized, causing the investors losses. However, the court disagreed, based on the valuation structure of mutual funds. Rather than have a price determined by market trading, mutual funds are valued by their Net Asset Value, according to a statutory formula derived from the value of the underlying securities. The court found that because the Net Asset Value was calculated in this way, the alleged misrepresentations could not have inflated its value, nor did the revelation of the misstatements cause any loss. 12

19 e. Prime Mover Capital Partners, L.P. v. Elixir Gaming Technologies, Inc., 793 F. Supp. 2d 651 (S.D.N.Y. 2011) Plaintiff hedge funds brought suit against defendant gaming corporations, an affiliate corporation, and certain of the corporations officers under Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5, as well as under state law after the share price of the gaming companies fell precipitously in value. Specifically, plaintiffs alleged that defendants intentionally inflated the gaming corporation s stock by making misrepresentations regarding the corporation s business and future prospects relating to the placement and profitability of electronic gaming machines in Asia. The district court dismissed all of plaintiffs federal securities law claims. Several of the securities fraud claims were dismissed due to lack of transaction causation because plaintiffs who did not acquire any stock during the period in which the stock price was allegedly inflated could not show that the alleged misstatements induced them to purchase the stock. Plaintiffs were also unable to prove loss causation because most of the disclosures that corrected the prior misstatements did not occur until after the stock was at its lowest price. The corrective disclosures, which occurred before the drop in price, were predictions about future profitability, which the court found were covered by the PSLRA safe harbor for forward-looking statements because they were not made with knowledge that the statements were false. f. Solow v. Citigroup, Inc., No. 10-cv-2927, 2011 WL (S.D.N.Y Nov. 2, 2011) Plaintiff investor claimed that defendant financial corporation had violated Sections 10(b) and 20(a) of the Exchange Act by fraudulently boosting its stock price through issuing falsely positive statements about the capital strength and liquidity of the bank, as well as a proposed acquisition. The Southern District of New York found that plaintiff adequately pled misstatements as well as scienter, but granted defendant s motion to dismiss for failure to plead loss causation. The court first found that the statements made concerning the strength of defendant s liquidity were actionable because the defendant failed to disclose the large amount it had borrowed from the Federal Reserve while making positive statements about its liquidity. The statements concerning defendant s capital strength were not adequately pled because plaintiff could not demonstrate that the capital ratio was below the legal threshold, and thus that the statements were false. Further, no misstatement occurred when the bank stated that the proposed acquisition was not a bid to save itself because no facts ever contradicted that statement. Plaintiff adequately pled scienter by showing that defendant was aware that its capital and liquidity were deteriorating while it continued to depict its financial situation positively. The court also noted that statements made after plaintiff s stock purchase were relevant in determining defendant s scienter. However, while plaintiff was able to connect some of the statements about the decrease in liquidity with a decline in stock price, he was not able to connect the disclosure of this information with the emergence of any concealed risk. The stock price decreases were instead attributable to a series of events, such as the loss of confidence in the defendant more generally, which were not necessarily related to misstatements or the revelation of a concealed risk. As a result, plaintiff was unable to demonstrate the necessary nexus between the materialization of a concealed risk or corrective disclosure and the losses suffered. 13

20 g. Wilamowsky v. Take-Two Interactive Software, No. 10-cv-7471, 2011 WL (S.D.N.Y Sept. 30, 2011) Plaintiff short seller asserted a Section 10(b) claim against defendant software company, claiming that defendant s misstatements regarding an options backdating scheme inflated the price of its stock and caused plaintiff to cover his positions at artificially high prices. The Southern District of New York dismissed the complaint on the grounds that plaintiff could not prove loss causation. The court found that the plaintiff s loss was not attributable to the defendant s alleged omission, but rather to the fact that plaintiff gambled incorrectly when he decided to cover his position. Moreover, plaintiff was unable to connect his transactions and losses with the period of time during which the inflationary misstatements were made, and instead relied on a theory of continual inflation, which the court rejected. 2. Statute of Limitations a. City of Pontiac Gen. Emps. Ret. Sys. v. MBIA, Inc., 637 F.3d 169 (2d Cir. 2011) Plaintiffs, purchasers of shares of defendant bond insurer, brought this securities fraud action under Section 10(b) of the Exchange Act and Rule 10b-5, after defendant amended its financial statements to rebook a seven-year-old transaction as a loan, rather than income. The district court dismissed plaintiffs claims as barred by the statute of limitations, finding that press reports on the transaction should have put plaintiffs on inquiry notice six months before the beginning of the class period. Plaintiffs appealed to the Second Circuit, which reversed and remanded for reconsideration in light of Supreme Court s 2010 decision in Merck & Co. v. Reynolds. The court observed that Merck changed the applicable law on the limitations period, such that the limitations period does not begin to run until a reasonable investor conducting a timely investigation could have discovered facts constituting a violation. A fact is not discovered until a reasonably diligent plaintiff would have enough information about the fact to plead it in a complaint adequately enough to survive a 12(b)(6) motion to dismiss. The Second Circuit also questioned the district court s finding that plaintiffs should have been on inquiry notice six months before the class period began, noting that it is not possible for a securities plaintiff s claim to accrue until he has purchased or sold a security. The court ordered the district court to reconsider this issue on remand, and determine whether facts exposing the fraud were available before plaintiffs purchased, which may preclude plaintiffs from establishing transactional causation. b. In re Barclays Bank PLC Sec. Litig., No , 2011 WL (S.D.N.Y. Jan. 5, 2011) Plaintiffs, purchasers of securities in four of defendant bank s offerings from April 2006 to April 2008, alleged that the bank violated Sections 11 and 12(a)(2) of the Securities Act by failing to adequately disclose its exposure to risky real estate investments and take writedowns on those assets as the markets declined. The court held that plaintiffs claims as to three of the four offerings were time-barred because plaintiffs were on inquiry notice of those claims more than one year before the filing of the complaint. Additionally, the court held that even if the statute of limitations had not expired, plaintiffs claims must be dismissed for failure to 14

21 adequately allege defects in defendants disclosures. The court found that defendants representations about the value of their credit market exposures were subjective opinions, and plaintiffs failed to allege that defendants did not truly hold such opinions. Additionally, the court noted that defendants are explicitly not required to provide an itemized breakdown of mortgagerelated assets, and plaintiffs did not adequately allege how defendants failed to comply with the applicable accounting and SEC requirements. c. In re Morgan Stanley Mortg. Pass-Through Certificates Litig., No. 09 Civ. 2137, 2011 WL (S.D.N.Y. Sept. 15, 2011) Plaintiff investors filed a putative class action against defendant issuer and loan trusts in state court asserting violations of Sections 11, 12(a)(2) and 15 of the Securities Act relating to the marketing and sale of mortgage-backed security pass-through certificates. After the case was removed to federal court, consolidated with a separate action and new plaintiffs were added, defendants moved to dismiss, arguing that plaintiffs claims were untimely and that the added plaintiffs claims were barred by the statute of repose. The district court granted defendants motion to dismiss plaintiffs claims, with leave to replead, finding that plaintiffs failed to satisfy the pleading requirements of Section 13 of the Securities Act. However, the court declined to hold that plaintiffs were on inquiry notice of the alleged fraud, finding that neither the ratings downgrades of the mortgage loan trust nor news articles and public reports were sufficient to place plaintiff investors on inquiry notice of a possible claim. The court also applied the tolling doctrine articulated in American Pipe & Construction Co. v. Utah to find that the new plaintiffs claims satisfied the three-year statute of repose for actions brought under Sections 11 or 12(a)(1), holding that American Pipe tolling is equitable in nature, and thus applicable to the statute of repose. The court also held that plaintiffs had standing under Section 12(a)(2), as they sufficiently alleged that defendants promoted and sold the securities to plaintiffs. The court denied defendants motion to dismiss for failure to allege a cognizable loss, finding that plaintiffs allegation of a diminution in value satisfied that pleading requirement. Finally, the court held that plaintiffs adequately stated viable claims of misrepresentations or omissions regarding two of their three categories of allegations, those regarding the underwriting standards and the appraisal standards. The court dismissed claims arising from plaintiffs third category of allegations, those regarding the investment ratings, finding that plaintiffs failed to actually allege that the offering documents conveyed the ratings inaccurately. d. Footbridge Ltd. Trust v. Countrywide Fin. Corp., 770 F. Supp. 2d 618 (S.D.N.Y. 2011) Plaintiff hedge funds asserted claims for violations of Sections 11, 12(a)(2) and 15 of the Securities Act against defendants, sellers of mortgage-backed securities (MBS), arising out of their purchases of MBS through two public offerings. The Southern District of New York granted defendants motion to dismiss on the grounds that the claims were untimely under the statute of repose. The MBS had been offered pursuant to registration statements filed in February and August 2006, and plaintiffs purchased them as part of the initial offering on four separate dates, the latest of which was October 3, The court found that the complaint, which had been filed on January 15, 2010, was barred by the three-year statute of repose 15