The Dabit opinion

The Supreme Court held in Dabit that holders of securities can’t bring securities fraud class actions in state court. Peter Lattman has the story.

As I have discussed, the basic problem in this case is that when Congress, in the Securities Litigation Uniform Standards Act, restricted state securities class actions, it did so with the same language as 10b-5 -- that is, the requirement that the fraud be "in connection with" the purchase or sale or a security.  The Supreme Court had held in Blue Chip Stamps that the Rule allowed actions only by purchasers or sellers. So by the same token it would seem to follow that only purchasers and sellers were blocked from state court under SLUSA.

But Justice Stevens, writing for a unanimous Court, held that the purchaser-seller rule didn’t limit the application of SLUSA. The opinion reasoned that Congress relied on policy considerations in Blue Chip Stamps, not the language of the statute. So it was appropriate to rely on policy in interpreting SLUSA -- i.e., the policy underlying the Private Securities Litigation Reform Act to limit abusive class actions, which the Court read into SLUSA.

The opinion is sensible but not entirely persuasive. SLUSA also evinced a policy of preserving some state remedies, and therefore a respect for state law. And it’s not completely accurate to say that Congress wasn’t interpreting the language of 10b-5 in Blue Chip Stamps, although it did use policy to interpret that language.

Also, Congress might be taken to have imported the purchaser-seller rule into its use of the "in connection with" language of SLUSA (admittedly an artificial rule of construction, since it seems likelier that Congress wasn’t thinking of the problem at all). The Court reasoned that Congress had in mind the broad interpretation of that language in Bankers Life – but that case did not involve the purchaser-seller issue.

Here’s some further thoughts on the decision:

1. The opinion supports Mark Lowenstein’s hypothesis that the Court’s securities cases evince a “nationalistic” rather than “new federalism” philosophy, and therefore provides some evidence against Steve Bainbridge’s contrary argument that the Court has no coherent philosophy of securities regulation (though Steve is clearly correct that there aren’t enough cases on which to base a definitive conclusion). The Court notes in support of its decision that “federal law. . . has long been the principal vehicle for asserting class-action securities fraud claims.” Of course this is simply a statement of fact.  But it is significant to the extent that it is used to support a further extension of federal law.
2. As a corollary to the above, this case illustrates that the Court's federalism is less a coherent philosophy than the stepchild of other considerations. Here, the unanimous Court (yet in an opinion by Justice Stevens), can be seen as taking a pro-business “conservative” position. At least that’s certainly how the plaintiff’s lawyer saw it. Yet the “conservatives” on the Court view the states differently when it comes to, say, abortion.
3. The opinion is an additional basis for a broad reading of Dura Pharmaceuticals, Inc v. Broudo, like that suggested in my Fraud on a Noisy Market. I interpret Dura to limit fraud on the market to cases where plaintiffs both bought and sold, on the theory that this would help address the Court’s concerns in that case about loss causation. Dura, like Dabit, relied heavily on Congress’s reasoning in the PSLRA. The Dabit Court noted that its interpretation did not involve a preemption of a state cause of action, but “simply denies plaintiffs the right to use the class action device to vindicate certain claims.” Note the use of “simply.” The Court is clearly drawing away from Basic, which invented the fraud on the market presumption just so plaintiffs could bring class actions.
4. I still think, as discussed in the above article, that the overall best solution here is not only to shrink the federal cause of action, but also to bring in the “laboratory” of state law. This doesn’t necessarily mean a finding for the plaintiff in Dabit, which would have allowed plaintiffs to sue in any state in which securities were sold. Rather, it means that Congress should extend the SLUSA “Delaware carve-out” to permit the states to entertain any action based on state corporation law.  This would provide some protection against abusive state law because firms can choose where to incorporate.
5. What might a state corporation law remedy look like?  Malone v. Brincat – brought under pre-PSLRA law – indicated that Delaware, at least, was capable of nuanced lawmaking in this area. Malone permitted a state securities fraud class action that wouldn’t have satisfied the purchaser-seller rule, but on the other hand imposed a higher scienter requirement than would have applied under federal law. Note that this would enable the best solution of all – Rich Booth’s recommendation to replace wasteful class actions with derivative suits, brought on behalf of the corporation, which usually wouldn’t satisfy the federal purchaser-seller rule. Had Dabit gone the other way, Congress might have come up with this sort of compromise. Then again, maybe not.

Comments

[Francis]

Thanks for the insightful analysis.

[Robert Schwartz]

How many decisions have been unanimous since Roberts took over as chief? Seems like a lot to me.

[pj]

By its terms, SLUSA doesn't apply to derivative suits, so you're views of the scope of Dabit don't make sense. Malone survives Dabit two ways -- as a derivative suit, or as a breach of fiduciary duty claim brought under the law of the state of incorporation.

[Larry E. Ribstein]

Malone doesn't survive Dabit anymore than it survives SLUSA.