The Supreme Court Considers Loss Causation at Time of Class Certification

The following post comes to us from Jonathan K. Youngwood, a partner in the Litigation Department at Simpson Thacher & Bartlett LLP, and is based on a Simpson Thacher report by Mr. Youngwood and Christopher R. Kelly. Oral arguments in the Supreme Court case discussed below, Erica P. John Fund, Inc. v. Halliburton Co., are available here.

The Supreme Court heard oral arguments recently in Erica P. John Fund, Inc. v. Halliburton Co., No. 09-1403, a private securities fraud case in which the Court is expected to address whether a class may be certified even where plaintiffs fail to establish that the alleged misstatements had an impact on the price of the securities at issue. The Court’s decision will likely resolve a split concerning whether courts should require plaintiffs to prove loss causation at the time of class certification. The Fifth Circuit in Oscar Private Equity Invs. v. Allegiance Telecom, Inc., 487 F.3d 261 (5th Cir. 2007), has expressly allowed defendants to rebut the fraud-on-the-market presumption by disproving loss causation at the class certification stage. The Third and Seventh Circuits have explicitly rejected the Fifth Circuit’s approach in In re DVI, Inc., Sec. Litig., No. 08-8033, 08-8045, 2011 WL 1125926 (3d Cir. Mar. 29, 2011), and Schleicher v. Wendt, 618 F.3d 679 (7th Cir. 2010), respectively. The Second Circuit also rejected analyzing loss causation as a class certification requirement in In re Salomon Analyst Metromedia Litig., 544 F.3d 474 (2d Cir. 2008).


On June 3, 2002, the plaintiffs brought suit against Halliburton and its Chief Operating Officer, alleging violations of sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5. The complaint alleged that the company made a series of material misrepresentations that inflated its stock price. The complaint then identified eight supposed corrective disclosures by the company, each of which was followed by a stock price decline.

In evaluating the plaintiffs’ motion for class certification, under Oscar, the district court assessed whether the plaintiffs were entitled to a class-wide presumption of reliance based on the “fraud-on-the-market” theory. The “fraud-on-the-market” theory rests on the premise that, in an efficient market, any materially misleading statement or omission is factored into the company’s stock price and, once the truth is disclosed, the resulting stock decline demonstrates the market’s reliance on the withheld information. In analyzing the plaintiffs’ allegations, the district court concluded that there was no connection between the alleged misrepresentations, the alleged corrective disclosures and the ensuing stock decline and, therefore, plaintiffs were not entitled to a class-wide presumption of reliance. Specifically, the alleged disclosures were not derived from, and therefore did not correct, any alleged prior misrepresentations by the company. Though the court stated that Oscar “imposes an exceedingly high burden on [p]laintiffs at an early stage of the litigation,” the court followed Oscar and denied the motion to certify the class.

The Fifth Circuit affirmed on appeal. The court reviewed de novo the lower court’s legal standard and upheld the application of Oscar. Reviewing the lower court’s decision with respect to the corrective disclosures for an abuse of discretion, the Fifth Circuit upheld the denial of the motion for class certification. It stated: “[W]e are satisfied that the district court here understood the need for the corrective disclosures to reveal the actionable truth about prior misstatements…[p]laintiff largely failed to identify disclosures that had a corrective effect linked to a specific misrepresentation, as opposed to simply a negative effect[.]” Archdiocese of Milwaukee Supporting Fund, Inc., v. Halliburton Co., 597 F.3d 330, 338 (5th Cir. 2011).

Summary of the Argument

Before the Supreme Court, Plaintiffs-Petitioners argued that, by requiring the plaintiffs to prove loss causation at the class certification stage, the Fifth Circuit prematurely put at issue a merits question that has no bearing on whether common issues predominate.

Justice Kagan asked: “Why could [market efficiency] be disputed at the certification stage, but not the question of price impact?” Plaintiffs responded that market efficiency bears on the presumption of class-wide reliance, whereas loss causation is a common issue. Justice Alito then asked whether the presumption of reliance in Basic v. Levinson, 485 U.S. 224 (1988), can be rebutted at the class certification stage. After the plaintiffs argued that the issue is reserved for trial, Justice Alito replied: “Well, that’s pretty thin, isn’t it? . . . [I]t’s dictum in a footnote in an opinion issued at a time when conditional class certification was permitted.”

On the issue of market efficiency, Justice Sotomayor asked: “[D]oesn’t a lack of response to a disclosure—couldn’t it be in some situations reflective of an inefficient market?” The plaintiffs admitted that this could reflect an inefficient market, but stated that Halliburton already conceded market efficiency. After Justice Sotomayor questioned the plaintiffs as to what evidence relates to loss causation as compared with an inefficient market, the plaintiffs reiterated that no one could reasonably conclude that the market in this case was not efficient under Basic.

Justice Alito further noted, “there are some economists who say that, even in a market that is generally efficient … there can be instances in which the market does not incorporate certain statements in the price of a stock . . . .” He then asked whether “the defendant … should be permitted at the class certification stage to prove that the allegedly fraudulent statement had no impact on price” to destroy the Basic presumption. The plaintiffs responded that this was a class-wide issue, and therefore should not be decided at the class certification stage.

The United States, represented by the Solicitor General’s office, argued that the Fifth Circuit erred in requiring proof of loss causation at the class certification stage for three reasons: (1) it is a merits question not appropriate for resolution during class certification; (2) it requires the plaintiffs to prove that they are entitled to the presumption; and (3) it confuses reliance and loss causation.

Justice Scalia commented: “[Y]ou acknowledged that if the cause was the fact that the market was not efficient, that could be raised at the certification stage.” The Government stated that the issue of an inefficient market could be raised at class certification under Basic. However, the Government argued that whether or not the plaintiffs can prove their case involves class-wide issues that should be dealt with after class certification. Justice Kennedy observed: “The rule isn’t . . . that simply because the issue is on a class-wide basis, it can’t be challenged at the certification stage.” The Government responded that there can be many reasons that the plaintiffs lose at the merits stages, but that class certification should not require a merits inquiry – notwithstanding the Fifth Circuit’s own policy considerations regarding the need to restrain the “in terrorem power of class certification.” Oscar, 487 F.3d at 267.

Justice Alito then asked, “[I]f [defendants] show that the statement was not incorporated in the price … and [plaintiffs are] not claiming that … every member of the class actually relied on the statement … then why doesn’t reliance cease to be a common issue[?]” The Government responded by indicating that the plaintiffs would stand or fall together on the merits, to which Justice Alito replied: “Yeah, but the fact that they would lose on the merits doesn’t necessarily mean that they are entitled to class certification.”

Respondent-Defendant Halliburton argued that the Basic presumption is rebutted where there is proof that the market price is not distorted by the alleged misstatements.

In response to questioning by Justice Sotomayor, Halliburton clarified that it was not defending the language in Oscar suggesting that loss causation is a separate class certification requirement. Rather, Halliburton contended, price impact is the real issue because, under Basic, “any showing that severs the link between the misrepresentation and the stock price defeats that presumption.”

Justice Breyer noted that Halliburton’s proposed price impact test involved issues that should be dealt with at the merits stage: “But what you’re just saying [in] terms of whether the revelation lowered the price has nothing to do with the question of what happened to the typical person … It has to do with whether anybody was hurt. Now, that has nothing to do with the certification stage. That’s the win or lose stage.” Halliburton maintained that, if the stock price was not distorted by a misrepresentation, it cannot be said that the class relied on the misrepresentation through its effect on the market. Justice Scalia then stated that in the absence of a price impact, “the plaintiff would lose … [b]ut it doesn’t mean that there is not a common issue . . . .”

Justice Sotomayor observed that there is “a difference between saying it’s an inefficient market or that the statements had no price impact for some other merits-related reason.” Halliburton responded, arguing that district courts should not certify class actions on a presumption of reliance based on a change in the security’s price while there is direct proof that there was no price movement.

Chief Justice Roberts asked Halliburton to respond to the objection that plaintiffs do not have discovery at the class certification stage, and therefore should not be required to present proof of loss causation. Halliburton described the discovery issue as a red herring because district courts can grant class discovery.

In rebuttal, the plaintiffs repeated that loss causation and price impact are common issues, and that courts should not decide these merits issues at the class certification stage.


In Halliburton, the Supreme Court is set to decide whether courts may consider at the class certification stage evidence that the alleged misstatements have no impact on the price of security at issue. If the Court were to hold that district courts may consider the issue, defendants would be given the chance to demonstrate that the plaintiffs’ alleged misstatements had no impact on the price of the security at issue and, if so, defeat class certification. On the other hand, if the Court were to hold that the issue of price impact relates solely to the merits of the plaintiffs’ claims, and should not be analyzed during the class certification stage, the Court would reverse the Fifth’s Circuit’s loss causation requirement, but would affirm the status quo in other jurisdictions.

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