A Victory for Shareholders: U.S. Supreme Court Refuses to Overturn Basic Presumption of Reliance
The U.S. Supreme Court’s Ruling in Halliburton II
Earlier today, the U.S. Supreme Court issued a favorable opinion in Halliburton Co. v. Erica P. John Fund (“Halliburton II”), 573 U.S. __ (2014). In a unanimous judgment written by Chief Justice Roberts, the Court refused to overturn its 25-year old precedent in Basic Inc. v. Levinson, 485 U.S. 224 (1988), thus preserving investors’ long-standing right to invoke a presumption of reliance at the class certification stage in actions brought under SEC Rule 10b-5 and Section 10(b) of the Securities Exchange Act of 1934. The Court’s refusal to overturn Basic was unequivocal:
Halliburton urges us to overrule Basic’s presumption of reliance and to instead require every securities fraud plaintiff to prove that he actually relied on the defendants’ misrepresentation in deciding to buy or sell a company’s stock. Before overturning a long-settled precedent, however, we require ‘special justification,’ not just an argument that the precedent was wrongly decided. . . . Halliburton has failed to make that showing.
Slip op. at 4 (emphasis added). Despite defendants’ urging to the contrary, the Court’s opinion places the burden squarely on defendants to prove lack of a “price impact” (i.e., that their misstatements did not affect the stock price) at the class certification stage in order to rebut the presumption of reliance.
Notably, Justices Thomas, Scalia and Alito issued an opinion concurring with the judgment, but refused to join the opinion of the Court, instead advocating for the abolishment of Basic’s presumption of reliance.
The Basic Opinion
For more than a quarter century, the U.S. Supreme Court’s decision in Basic has allowed victims of securities fraud to allege class-wide reliance under the “fraud-on-the-market” theory. “The fraud on the market theory is based on the hypothesis that, in an open and developed securities market, the price of a company’s stock is determined by the available material information regarding the company and its business.” Basic, 485 U.S. 241. In Basic, the Supreme Court recognized that “[m]isleading statements will  defraud purchasers of stock even if the purchasers do not directly rely on the misstatements.” Id. 241-42. Thus, the “causal connection between the defendants’ fraud and the plaintiffs’ purchase of stock in such a case is no less significant than in a case of direct reliance on misrepresentations.” Id. at 242.
Basic’srebuttable presumption of reliance is significant because, without it, each investor would be required to show individualized proof of his direct reliance on specific false or misleading statements, raising concerns that individual issues of proof could possibly overwhelm common ones – potentially foreclosing class treatment. Basic obviates this problem, holding that requiring such individualized proof regarding reliance places an “unnecessarily unrealistic evidentiary burden” on plaintiffs in §10(b) class actions involving publicly disseminated misstatements concerning actively traded securities. Id. at 245.
The Practical Implications of Halliburton II for Securities Fraud Litigation
The Court’s refusal to overturn Basic’s presumption of reliance, and refusal to require plaintiffs to directly demonstrate price impact at class certification, is a significant victory for institutional investors, particularly given the standard advocated by the defendants in Halliburton II. It places on defendants the burden to prove a lack of price impact in order to defeat Basic’s presumption of reliance, meaning defendants will have to provide evidence that their “misrepresentation did not in fact affect the stock price” to overcome the presumption of reliance. Halliburton II, slip op. at 18. The Court’s decision today avoids the dramatic shift sought by defendants regarding what investors must show in order to obtain class certification, and avoids a heightened burden of proof on plaintiffs at the class certification stage. As succinctly noted in Justice Ginsberg’s concurring opinion, “[t]he Court’s judgment . . . should impose no heavy toll on securities-fraud plaintiffs with tenable claims.” Id. at 1.