Supreme Court Curbs, but Doesn't Kill, the Shareholder Class Action

Updated with reaction to today’s ruling.

Shareholder class actions—the bane of corporate management—had a near-death experience at the Supreme Court but survived a ferocious assault from business interests. In curbing but not eliminating the controversial form of litigation, the high court’s conservative majority revealed again a fascinating fissure between Chief Justice John Roberts and three of his more aggressive colleagues.

Today’s closely watched ruling amounted to a partial victory for Halliburton, as the high court imposed new requirements on shareholders pressing class-action fraud suits. The justices stopped short, however, of granting the oil services giant—and an army of business advocates supporting it with friend-of-the-court briefs—the sweeping decision they sought. Halliburton and its backers had asked the high court to throw out a landmark 1988 Supreme Court precedent that provides the foundation for most shareholder class actions.

Aaron Streett of the law firm Baker Botts, who represented Halliburton, praised (faintly) the decision, which he said would “restore a measure of rationality and balance to securities class actions … by holding that defendants may defeat class certification with evidence that the alleged [management] misstatements did not distort the stock’s market price.”

Why does all this matter? Greg Stohr, who pounds the Supreme Court beat for Bloomberg News, offers this helpful context: “Securities-fraud litigation has thrived in recent years even as Congress has tried to rein it in. More than 4,000 class-action suits have been filed since 1996, producing almost $80 billion in settlements, according to Nera Economic Consulting.” In other words, mass shareholder litigation is a big business in and of itself. Today the Supreme Court attempted to make it somewhat smaller in the future.

The shareholders in this case were represented by the legendary courtroom attorney David Boies. The plaintiffs contend that from 1999 to 2001, Halliburton falsified earnings reports, played down estimated asbestos liability, and overstated the benefits of a merger. Halliburton stock dropped 42 percent on the day those statements were shown to be false, Boies told the justices.

In the often-cited 1988 precedent Basic v. Levinson, the Supreme Court said that judges considering fraud claims such as those against Halliburton should presume that investors take public misstatements by management into account when buying shares. That presumption—known as “the fraud on the market” theory—makes it far easier for shareholders to overcome legal requirements that they show they relied on the alleged fraud and that they share sufficient attributes to justify a class, or group, lawsuit.

Writing for the court, Chief Justice Roberts refused to overturn the Basic ruling. Instead, he said Halliburton should have an opportunity, before the class action is approved, to argue that the alleged misrepresentation didn’t affect its stock price.

The Roberts opinion was joined in part by all eight of his colleagues. Three of the court’s other conservatives, however—Justices Clarence ThomasSamuel Alito, and Antonin Scalia—said they would have gone ahead and tossed out Basic. By resisting that more dramatic gesture, the chief justice retained a sort-of unanimous court in a contentious and important case. His more cautious approach also means, as a practical matter, that federal trial judges will continue to have some flexibility in deciding whether to allow shareholder class actions to get aloft.

UPDATE: Reactions to the ruling are pouring in. Here are some illuminating interpretations:

Daniel Sommers, a partner at the plaintiffs’ firm Cohen, Milstein, Sellers & Toll, which wasn’t involved in the case:

Affirming the continued vitality of Basic…is a significant victory for investors. Today’s ruling should not unduly restrict the rights of investors, and the conduct of securities class actions should not substantially change in the wake of this decision. Indeed, in her concurrence, Justice Ruth Bader Ginsburg made it clear that…the court’s ruling “should impose no heavy toll on securities-fraud plaintiffs with tenable claims.” The decision is also significant because the court squarely rejected Halliburton’s policy arguments that Basic should be overturned because of so-called “harmful consequences” of securities class actions. The court dismissed these arguments noting that the forum for addressing these concerns is Congress.

Lisa Rickard, president of the U.S. Chamber Institute for Legal Reform, which backed Halliburton:

The court today took a small first step in a long journey toward reducing the costs of securities class actions for investors.  We are disappointed, however, that the court missed an important opportunity to correct the mistake that Basic has turned out to be for investors.  Meritless securities class actions benefit only a few plaintiffs’ lawyers and ultimately cost investors billions. Congress must now finish this important journey toward shareholder justice by acting to cut back on litigation driven solely by a few plaintiffs’ lawyers.

Jordan Eth, chair of the securities litigation practice at Morrison Foerster, argued that the sort of publicly traded corporations he defends now have “a new arrow in their quiver,” while the “basic framework of shareholder class actions was maintained.”

M. Todd Henderson, a professor at the University of Chicago Law School who filed a friend-of-the-court brief on behalf of the plaintiffs:

This opinion is terrible. Chief Justice Roberts’ modesty approach is odd, as Justice Thomas points out, given the problem is of the court’s own making. The ruling will make these cases more expensive…without targeting the worst corporate actors….My prediction is that the average case will get longer and cost more, since defendant corporations will put on evidence that plaintiffs will have to respond to….So, all in all, I think this is very disappointing.

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