United States: Supreme Court Preserves State Courts As A Forum For IPO Securities Class Actions

Last Updated: March 27 2018
Article by Kevin C. Conroy

In a unanimous decision issued Tuesday, March 20, 2018, the United States Supreme Court clarified that certain securities law class action cases may proceed in state courts.  The Court declined to find that Congress intended to make federal courts the exclusive or preferred forum for resolving such claims.

The case – Cyan, Inc. v. Beaver County Employees Retirement Fund – involved the interpretation of the Securities Litigation Uniform Standards Act of 1998 (also referred to as SLUSA) and the changes that law made to the Securities Act of 1933.  The Securities Act governs the offering of securities to the public and requires "full and fair disclosure" of relevant information.  The Securities Act gives plaintiffs the option of pursuing a claim in either federal or state court.  Ordinarily a defendant facing a lawsuit brought in state court but based on federal law (such as the Securities Act) would have the option to "remove" the case to the appropriate federal court.  The Securities Act, however, expressly prohibits the removal of such cases to federal courts.  If a plaintiff choses to bring the claim in state court, the defendant is forced to litigate the claim in that forum.  The Securities Exchange Act of 1934 takes a different approach.  The Exchange Act (which governs trading in securities and which was not at issue in Cyan) granted federal courts exclusive jurisdiction over claims brought pursuant to that act.  Plaintiffs alleging violations of the Exchange Act could only bring their claims in federal court.

In 1995, Congress passed the Private Securities Litigation Reform Act, amending both the Securities Act and Exchange Act.  These amendments included both substantive changes that applied to cases brought in either federal or state courts and procedural changes that only applied to actions brought in federal court.  Because the procedural changes were generally more favorable to the defendant, one effect of the 1995 reforms was to make state court an even more attractive option for plaintiffs bringing claims under the Securities Act.  Plaintiffs could also circumvent the substantive changes by alleging separate claims based on state law rather than on the Securities Act or Exchange Act.

In 1998, Congress amended the securities laws once again by passing SLUSA.  The purpose of SLUSA was to curb perceived abuses in securities litigation, including the use of state courts to circumvent the changes enacted in the 1995 amendments.  SLUSA barred class action lawsuits involving more than 50 class members and a security listed on a national stock exchange where the claim was based on state securities laws.  The bar applied to both federal and state courts.  In other words, SLUSA made the Securities Act and Exchange Act the exclusive means to redress alleged deception in the offering or sale of listed securities, with a limited exception for small and local matters.  SLUSA also provided a limited exception to the Securities Act's prohibition on removal of actions from state to federal courts.

The Cyan case arose when the plaintiffs (three pension funds and an individual) bought shares of a telecommunications company (Cyan) in an initial public offering registered under the Securities Act.  The shares declined in value, and the plaintiffs brought a class action in a California state court alleging violations of the Securities Act.  Cyan moved to dismiss the case, arguing that SLUSA made federal courts the exclusive forum for litigating such cases.  Cyan lost its argument in the state courts, and the case made its way to the Supreme Court.

The Supreme Court, in a unanimous decision, found that SLUSA had not stripped the state courts of jurisdiction to hear cases involving alleged violations of the Securities Act.  Instead, the Court found that SLUSA barred the litigation of securities claims based on state law, but did not otherwise change the ability of state courts to adjudicate securities law claims.  The Supreme Court also declined to find that SLUSA permitted the removal of Securities Act claims from state to federal courts (a position advocated by the United States Solicitor General).

Although the justices had expressed concern about the clarity of the statutory language during oral arguments, the Court ultimately used a straightforward textual analysis to reach its conclusion, finding that "The statute says what it says—or perhaps better put here, does not say what it does not say."  If Congress had intended to strip state courts of jurisdiction over Securities Act claims, it could have expressly done so, as it had done from the start with the Exchange Act.  The Court easily rejected Cyan's arguments based on Congress's purpose in enacting SLUSA, observing that the act "largely accomplished the purpose articulated" by Congress, and that the Court does "not generally expect statutes to fulfill 100% of all of their goals."

As for the possibility of defendants removing Securities Act claims from state to federal court, the Court found that SLUSA's limited exception to the Securities Act's general prohibition on removal only applies to those claims that plaintiffs may attempt to bring based on state securities laws (which SLUSA simultaneously bars on the merits).  While a state court applying the Securities Act as amended by SLUSA should dismiss such barred claims itself, defendants can elect to remove the case to a federal court to avoid any perceived risk of the state court failing to dismiss the case.

Following the Supreme Court's Cyan decision, it is clear that those involved in the offering of securities remain exposed to potential litigation in state courts, where they will not have the full slate of procedural protections they would have in federal court.  Perhaps the most significant procedural protection lost in such instances is the opportunity to consolidate potentially duplicative class action lawsuits.  Different groups of plaintiffs could pursue separate class actions simultaneously in multiple states against the same defendants for the same alleged violations.  Defendants would have no ability to consolidate the various actions, unless Congress decides to further amend the securities laws to prevent that outcome.

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