(Reuters) - The U.S. government fundamentally believes in shareholder class actions. Back in 1987, when the U.S. Supreme Court was contemplating the fraud-on-the-market principle that is the framework for securities fraud class actions, the Justice Department, on behalf of the Securities and Exchange Commission, filed an amicus brief in Basic v. Levinson, advising the justices to adopt the presumption that in an efficient market, shareholders rely on a defendant’s misrepresentations.
A quarter-century later, when the Supreme Court revisited the Basic presumption in 2014’s Halliburton v. Erica P. John Fund, DOJ and the SEC reminded that justices that the government relies on investor class actions to help police the market. DOJ filed its Halliburton amicus brief in support of shareholders, arguing that the Supreme Court should leave intact the Basic fraud-on-the-market presumption.
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The Justice Department and the SEC weighed in Monday in Goldman Sachs v. Arkansas Teacher Retirement System, the Supreme Court case that Goldman Sachs has billed as the most important shareholder class action to come before the justices since Halliburton. I’ll admit: The government’s brief surprised me. DOJ and the SEC are backing shareholders on some key points, as I’ll explain. But the government is also urging the Supreme Court to vacate the 2nd U.S. Circuit Court of Appeals decision certifying investors as a class, arguing that the justices should instruct lower courts to consider the nature of a defendant’s alleged misrepresentations at the class certification stage of shareholder class actions.
The government said the 2nd Circuit may have viewed the bank’s evidence too narrowly – and it wants the Supreme Court to adopt Goldman’s position that defendants should be permitted to rebut the presumption of reliance by arguing generic statements didn’t impact share price.
In case you’re wondering, the brief was signed by the Biden administration’s acting Solicitor General, Elizabeth Prelogar, as well as career lawyers from the SEC and Justice Department. (One of the signers is deputy solicitor general Malcolm Stewart, who argued for the government when the Supreme Court heard the Halliburton case.)
As you probably know if you’ve been reading my many, many stories about the Goldman securities case, the bank’s shareholders allege that Goldman lied when it said in public statements before the mortgage crisis that it put customers’ interests before those of the bank and that it strived to avoid conflicts. Those statements, according to shareholders, were proven false by revelations that Goldman sold doomed-to-fail collateralized debt securities, including the notorious Abacus CDO that led to a $550 million settlement between the bank and the SEC. Shareholders claim Goldman shares' value plunged – by as much as $13 billion – when investors realized the falsity of the bank’s assurances of principled business practices.
Goldman, which denied deceiving investors, argued during class certification proceedings that its allegedly fraudulent statements of business principles had no impact on the company’s share price. The Supreme Court’s 2014 ruling in the Halliburton case permits defendants to defeat class certification by breaking the link between alleged misrepresentations and a drop in the defendant’s stock. Goldman offered expert evidence that it was news of a government investigation of the bank’s CDOs – and not investors’ loss of faith in the bank’s generic statements about avoiding conflicts – that erased billions from its market capitalization. Anodyne statements of principle, the bank argued, simply can’t be the basis of a shareholder class action because no reasonable investor places any value on them.
The majority in a divided 2nd Circuit opinion rejected Goldman’s argument, reminding the bank that in 2013’s Amgen v. Connecticut Retirement Systems, the Supreme Court said investors don’t have to prove the materiality of a defendant's misrepresentations in order to be certified as a class. Goldman, the 2nd Circuit majority said, was trying to “smuggle” materiality into the class certification stage of the litigation by arguing that generic statements can’t underlie shareholder class actions.
In DOJ’s new Supreme Court brief, the government told the justices that it believes Goldman overreached in the lower courts when it argued that generic statements should be considered immaterial as a matter of law. The 2nd Circuit correctly rejected that argument, the DOJ brief said.
The government also agreed that the 2nd Circuit applied the correct standard of proof in evaluating Goldman Sachs’ evidence rebutting the price impact of its alleged misstatements. The bank has asked the Supreme Court to hold that defendants must only show by a preponderance of evidence that their misstatements didn’t affect the company’s share price. The 2nd Circuit said defendants bear a burden of persuasion to rebut the presumption that shareholders relied on fraudulent statements. The government’s amicus brief urged the justices to confirm that more stringent standard.
But DOJ agreed with Goldman’s lawyers at Paul, Weiss, Rifkind, Wharton & Garrison and Sullivan & Cromwell that, despite Amgen, lower courts can consider the nature of a defendant’s alleged falsehoods when they’re deciding whether to certify a shareholder class. That inquiry, the brief said, might overlap with the court’s consideration of the materiality of the statements, which is not a matter to be determined in class certification litigation. But the overlap, DOJ said, doesn’t mean courts should ignore the nature of the alleged misrepresentations in weighing their impact on share price.
“Especially if the other evidence about price impact (is) conflicting or ambiguous, evidence about the nature of the misstatement — i.e., evidence about whether the misstatement involved the sort of information that was inherently likely to affect the market price — might reasonably influence the court’s determination whether the defendant had disproved price impact by a preponderance of the evidence,” the DOJ brief said.
It’s not clear, the government said, whether the 2nd Circuit majority took into account that Goldman is accused of deceiving investors in generic, anodyne statements of business principles. To the extent that the majority meant to suggest that any consideration of the generic quality of the statements was impermissible under Amgen, DOJ said, the 2nd Circuit was wrong.
The Supreme Court, DOJ said, should vacate the 2nd Circuit ruling and instruct lower courts that they may consider the nature of the alleged misstatements as relevant evidence reviewing defendants’ rebuttal evidence.
I’m sure shareholders’ Supreme Court counsel from Goldstein & Russell will argue in their merits brief that the DOJ brief underscores that plaintiffs have already won the battle against any Supreme Court ruling that generic corporate statements cannot, as a matter of law, be the basis of a shareholder class action. And, as I mentioned, DOJ is also siding with plaintiffs on defendants’ burden.
But shareholders’ lead counsel from Robbins Geller Rudman & Dowd were gearing up for a potential trial against Goldman Sachs before this 11-year-old case went to the Supreme Court. And now the government is calling for the justices to send it back to the 2nd Circuit for another look at class certification. That can’t be good news.
(This story has been corrected. A previous version incorrectly reported that the Justice Department agreed with Goldman Sachs that the 2nd Circuit viewed the bank’s evidence too narrowly.)
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