On behalf of Wolf Popper LLP
The Securities Act governs the issuance of stock and bonds by companies, such as IPOs, and prohibits, among other things, the company, as well as other designated persons, from making "untrue statement[s] of a material fact or omit[ing] a material fact required to be stated therein or necessary to make the statements therein not misleading." If a company violates this provision, then investors may sue for damages. (The Securities Act itself provided that cases could be brought in either state or federal court.)
The number of class actions that allege violations of the Securities Act filed in California state court increased from 5 in 2014 to 18 in 2016. Why the increase? According to some critics of filing these cases in state court, the reason is that only 6 percent of such cases filed in California state court are involuntarily dismissed, while the dismissal rate in U.S. federal courts is 31 percent. Therefore, the critics contend, state venues are more favorable to plaintiffs. (Plaintiffs contend that the uptick in 2016 was an isolated event and that the average number of such cases filed annually was only 6 and in the first half of 2017 there were only 4 such cases.)
Critics also contend that the federal securities laws require that these cases be brought in federal court, and filing these cases in state court is improper. On November 28, 2017, the Supreme Court will hear oral argument in Cyan, Inc. v. Beaver County Employees Retirement Fund, a case that will likely determine whether Securities Act class actions can be brought in state court.
A bit of history, how does securities law apply in these matters?
In 1995, Congress passed the Private Securities Litigation Reform Act (PSLRA). One of the reasons the PSLRA was enacted was that there was concern, founded or unfounded, that a large number of filed securities class actions were meritless and abusive. Among other things, the PSLRA increases the pleading and proof standards for securities class actions, requiring, among other things, specific allegations concerning falsity and a strong inference of intent.
Shortly after passage of the PSLRA, Congress noticed an increase in class actions concerning securities and alleging state law claims, instead of federal securities law claims, being filed in state courts. To combat this trend, Congress enacted the Securities Litigation Uniform Standards Act of 1998 (SLUSA). SLUSA prohibits state law class actions on behalf of more than 50 people alleging misrepresentations, omissions, or the use of manipulative or deceptive devices in connection with the purchase or sale of a securities traded nationally and listed on a regulated national exchange (i.e. the NYSE or NASDAQ). In sum, SLUSA prohibits state law class actions alleging claims identical to the federal securities laws. SLUSA also allows the removal, or transfer, of these cases from state court to federal court.
How does this apply to Cyan?
The plaintiffs in Cyan brought their case in California State Court, and alleged claims under the Securities Act. They claim that Cyan's IPO documents misrepresented Cyan's customer base and likely future sales. Once the truth was revealed, Cyan's stock price lost more than half its value. Defendants want the case dismissed, arguing that SLUSA and the Securities Act required the case to be brought in federal court. The plaintiff shareholders argue that neither SLUSA nor the Securities Act preclude state jurisdiction in their matter. They state that as long as the case does not involve "mixed cases that assert prohibited state law claims in connection with the purchase or sale of covered securities, combined with a Securities Act claim," state jurisdiction is allowed. Since their claim does not involve any of these issues, it can move forward in a state venue. The lower court agreed with and found in favor of the plaintiff shareholders.
Impact of the Supreme Court's decision?
The Supreme Court will most likely issue its decision by the end of June 2018. The holding will be significant for those with similar securities issues. A holding in favor of state venues is often one in favor of plaintiffs, while one opposed to state venues would often weigh in favor of defendants.