Class Action Defense Cases-Oscar v. Allegiance: Fifth Circuit Holds That Loss Causation Must Be Established To Certify Securities Fraud Class Action And Criticizes Efficient Market Theory
To Invoke Presumption of Reliance in Securities Fraud Class Action Based on Fraud on the Market Doctrine, Plaintiff must Establish Loss Causation at Time of Motion to Certify Class Action Fifth Circuit Holds
Plaintiffs filed a securities fraud class action against telecommunications provider Allegiance Telecom and others alleging violations of section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 based on an inaccurate statement concerning the number of line installations during the first three quarters of 2001 and a drop in stock price following a restated line count announced during the fourth quarter of that year. Oscar Private Equity Inv. v. Allegiance Telecom, Inc., __ F.3d __, 2007 WL 1430225, *1 (5th Cir. May 16, 2007). Plaintiffs’ lawyer moved to certify the litigation as a class action, advancing a “fraud on the market” theory to establish reliance by class members; defense attorneys objected to class action treatment, arguing that the restatement was not the cause of a drop in the stock price, id. The district court relied on the “fraud on the market” theory, rejected defense arguments, and certified a class action as requested. Id. The Fifth Circuit granted the defense leave to file an interlocutory appeal and reversed. The Circuit Court summarized its holding as follows: “We vacate the certification order and remand, persuaded that the class certified fails for wont of any showing that the market reacted to the corrective disclosure. Given the lethal force of certifying a class of purchasers of securities enabled by the fraud-on-the-market doctrine, we now in fairness insist that such a certification be supported by a showing of loss causation that targets the corrective disclosure appearing among other negative disclosures made at the same time.” Id. (italics added).
The details of the events that precipitated the filing of the class action complaint are set forth in the Note, below. The Fifth Circuit explained: “This dispute turns on whether the certification order properly relied upon the fraud-on-the-market theory. This theory permits a trial court to presume that each class member has satisfied the reliance element of their 10b-5 claim. Without this presumption, questions of individual reliance would predominate, and the proposed class would fail. Oscar, at *2 (footnotes omitted) (italics added). Under the fraud on the market theory, “Reliance is presumed if the plaintiffs can show that ‘(1) the defendant made public material misrepresentations, (2) the defendant's shares were traded in an efficient market, and (3) the plaintiffs traded shares between the time the misrepresentations were made and the time the truth was revealed.’” Id. (citation omitted). In the Fifth Circuit, it is insufficient for a plaintiff to show that defendant made a material misstatement; rather, “proof that the misstatement actually moved the market” is required, id., at *3. The Circuit Court explained at page *3: