October Term, 2013
June 23, 2014
Today the Supreme Court issued two decisions, described below, of interest to the business community.
Securities Class Actions—Presumption of Reliance—Fraud on the Market
Halliburton Co. v. Erica P. John Fund, Inc., No. 13-317 (described in the November 15, 2013, Docket Report)
To prevail in a securities-fraud case under Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), a plaintiff must establish—among other things—that the defendant made a false material representation in connection with the purchase or sale of securities, that the defendant acted either intentionally or recklessly, and that the plaintiff relied on the defendant’s misrepresentation. At common law, reliance requires proof that the defendant’s misstatement induced the plaintiff’s decision to engage in the transaction.
Application of the common-law reliance standard presented an obstacle to certification of securities fraud class actions, however, because a class action is permissible only if “the questions of law or fact common to class members predominate over any questions affecting only individual members.” Fed. R. Civ. P. 23(b)(3). If reliance had to be proven on an individual-by-individual basis, that would have tipped the overall balance toward individualized questions.
Twenty-five years ago, a four-Justice majority of the Supreme Court recognized a rebuttable presumption of class-wide reliance based on the “fraud on the market” economic theory. See Basic Inc. v. Levinson, 485 U.S. 224 (1988). That theory assumes that in an efficient market, all publicly available information about a stock is reflected in the stock’s price; and thus, purchases at that price are made in reliance on the information—including representations—known to the market.
The Supreme Court today rejected a challenge to the continuing validity of Basic’s presumption of class-wide reliance. The Court adopted a narrow adjustment to the presumption, however, holding that a defendant may rebut the presumption, and thereby prevent class certification, by establishing an absence of “price impact”—that the alleged misrepresentation did not affect the stock’s price.
The plaintiffs in Halliburton are shareholders who filed a class action alleging that their investments in that company’s stock lost money when the company issued corrective statements that allegedly caused the stock price to fall. In an earlier round of litigation, the Supreme Court had held that, in order to invoke Basic’s presumption, a securities-fraud plaintiff need not prove loss causation—i.e., that the corrective statement in fact caused the stock price to fall. See Erica P. John Fund, Inc. v. Halliburton Co., 131 S. Ct. 2179 (2011). The Court specifically declined to address “any other question about Basic, its presumption, or how and when it may be rebutted.” Id. at 2187.
On remand, the district court certified the class without addressing Halliburton’s argument that it had rebutted the Basic presumption with price-impact evidence. Meanwhile, in a case involving proof of materiality in a fraud-on-the-market case, four justices questioned the economic premises of Basic’s presumption. See Amgen, Inc. v. Connecticut Retirement Plans & Trust Funds, 133 S. Ct. 1184, 1204 (Alito, J., concurring); id. at 1208 n.4 (Thomas, J., dissenting, joined by Scalia and Kennedy, JJ.).
The Fifth Circuit then affirmed the order granting class certification in Halliburton, interpreting Amgen as focusing the Rule 23(b)(3) inquiry on whether all class members “will fail or succeed together.” 718 F.3d 423, 431 (5th Cir. 2013). The court of appeals noted that “price impact” rebuttal evidence may be established with proof common to the class, and that if the evidence successfully rebuts the presumption all class members’ claims will fail together. Accordingly, the court of appeals likened price-impact evidence to those issues that cannot be resolved at the class-certification stage (materiality), rather than those that can (trade timing, market efficiency, and publicity).
In an opinion by Chief Justice Roberts, the Supreme Court vacated the Fifth Circuit’s judgment and remanded. The Court rejected Halliburton’s challenge to the Basic presumption, holding that there was no “special justification” for overruling that decision.
First, the Court reasoned that the majority in Basic had considered but rejected Halliburton’s argument that the presumption was inconsistent with legislative intent. Next, it recognized that even when Basic was decided there were “academic debates” about the validity of the “efficient capital markets hypothesis”; as in Basic, the Court “declined to enter the fray” by taking a position on “the degree to which” a security’s market price reflects publicly available information. Finally, the Court stated that principles of stare decisis weighed against overruling Basic. Concerns about the economic irrationality of securities class actions were, the Court said, more appropriately addressed to Congress.
Having retained Basic’s presumption, the Court held that a defendant may seek to defeat that presumption at the class-certification stage by establishing the absence of price impact—that the alleged misrepresentations did not “affect the market price in the first place.” The Court declined to follow Halliburton’s suggestion that plaintiffs should bear the burden of affirmatively establishing price impact, because that would “effectively jettison half of” the Basic presumption. Instead, defendants may “defeat the presumption at the class certification stage through evidence that the misrepresentation did not in fact affect the stock price.”
Because the Fifth Circuit did not permit Halliburton to disprove price impact at the certification stage, the Court vacated and remanded.
Justice Ginsburg wrote a concurring opinion, joined by Justices Breyer and Sotomayor, emphasizing that the defendant bears the burden of disproving price impact at the certification stage. That approach, she explained, “should impose no heavy toll on securities-fraud plaintiffs with tenable claims.”
Justice Thomas concurred in the judgment, in an opinion joined by Justices Scalia and Alito, disagreeing with the Court’s conclusion that stare decisis warranted retaining Basic’s presumption. These Justices would have overruled Basic. Justice Thomas questioned the economic theory underlying the presumption, explained that the “presumption is at odds with” the Court’s class-action decisions, and contended that the presumption was rarely rebuttable in practice.
Any questions about the case should be directed to Timothy S. Bishop (+1 312 701 7829) or Joshua D. Yount (+ 1 312 701 8423) in our Chicago office, or to Andrew J. Pincus (+1 202 263 3220) in our Washington office.
Clean Air Act—Regulation of Greenhouse-Gas Emissions From Stationary Sources
Utility Air Regulatory Group v. EPA, No. 12-1146 (described in the October 15, 2013, Docket Report)
The Clean Air Act empowers the Environmental Protection Agency to regulate “major emitting facilit[ies]” of “air pollutants,” including by requiring such facilities to employ “best available control technology,” or BACT, to limit the emissions of pollutants. After the Supreme Court held that greenhouse gases such as carbon dioxide may be regulated as an “air pollutant” in Massachusetts v. EPA, 549 U.S. 297 (2007), EPA issued rules regarding greenhouse gas emissions, including from major emitting facilities. Today, the Court (1) overturned EPA’s rule that the emission of substantial greenhouse gases is sufficient to deem a facility a “major emitting facility,” but (2) upheld EPA’s authority to regulate the greenhouse gas emissions of existing major emitting facilities—at the same time warning that there are “important limitations on BACT” that EPA must observe when doing so.
“Air pollutant” is a frequently used, but undefined, term in the Clean Air Act. Among other things, the Act requires permits to construct or modify a “major emitting facility,” defined as certain facilities that “emit, or have the potential to emit … two hundred fifty tons per year or more of any air pollutant.” Furthermore, to obtain such a permit, the facility must be subject to the BACT for “each pollutant subject to regulation under” the Act. Other statutory requirements are triggered by the potential to emit 100 tons per year of any pollutant.
In Massachusetts v. EPA, 549 U.S. 297 (2007), the Court held that greenhouse gases fall within the Act’s general definition of the term “air pollutant.” In response, EPA enacted rules to regulate greenhouse gases. However, recognizing that thousands, if not millions, of businesses emit more than 100 or 250 tons per year of greenhouse gases, in particular carbon dioxide, EPA wrote a new threshold of 100,000 tons per year for greenhouse gas emissions. EPA claimed this was necessary to avoid rendering the Act “unrecognizable to the Congress that designed” it. 75 Fed. Reg. 31562.
In a portion of his opinion joined by Chief Justice Roberts and Justices Kennedy, Alito, and Thomas, Justice Scalia held that EPA violated the Administrative Procedures Act in concluding that “air pollutant” must be given the same meaning throughout the Act. Slip op. 11. The Court held instead that, because the 100/250 tons-per-year thresholds, if applied to greenhouse gases, would create the absurd result of regulating thousands of additional businesses, the Act could be read to suggest a different meaning of “air pollutant” in the definition of major stationary sources than that used in Massachusetts. Slip op. 11-12. In fact, the Court held, this absurd result unambiguously foreclosed EPA’s reading, and EPA was not empowered to avoid the result by a Triggering Rule that raised the emission threshold for greenhouse gas emissions. Slip op. 16-24. Justices Breyer, Ginsburg, Sotomayor, and Kagan dissented from this portion of the opinion, arguing that EPA’s decision to alter the emission threshold was no different than the Court’s decision to alter the meaning of “air pollutant” to include a greenhouse gas exception.
Justice Scalia was joined by a different majority for the second portion of his opinion. In this portion, the Court held that the EPA permissibly concluded that greenhouse gases were included as a “pollutant subject to regulation under” the Act’s provisions relating to “best available control technology.” Slip op. 27-29. Thus, for facilities that were already deemed majoring emitting facilities due to their emission of other pollutants, the EPA could continue to require that these facilities employ best available control technology to limit the emission of greenhouse gases. On this issue, he was joined by everybody except Justices Alito and Thomas, who concluded that just as the Court had excluded greenhouse gases from the meaning of “air pollutant” in the previous portion of the opinion, it should do so again with respect to the BACT requirement.
Although seven Justices voted to preserve the BACT rule, the five-Justice majority that invalidated the Triggering Rule described “important limitations” on what control technology may be imposed: “BACT cannot be used to order a fundamental redesign of the facility”; can be applied “only for pollutants that the source itself emits”; and should impose only cost-effective requirements on “the facility’s equipment that uses the largest amount of energy,” not demand “minor improvements” or “every conceivable change.” Slip op. 26-27. The Court expressly did not opine on rules that EPA recently proposed under Clean Air Act section 111(d) for greenhouse gas emissions from power plants, slip op. 14 n.5—but these comments on the BACT may suggest limits on EPA’s section 111(d) authority.
The Court’s decision today is important to businesses, such as manufacturers, processors, or utilities, with facilities that are potential “major emitting facilities” under the Clean Air Act. In addition, the Court’s discussion of an agency’s ability to interpret statutory language in the course of regulation should be of broader interest to businesses that are subject to scrutiny by federal agencies.
Any questions about this case should be directed to Timothy S. Bishop (+1 312 701 7829) in our Chicago office.
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