On Friday, the Supreme Court granted review in three consolidated cases: Chadbourne & Parke LLP v. Troice, No. 12-79, Willis of Colorado v. Troice, No. 12-86, and Proskauer Rose LLP v. Troice, No. 12-88. The Court’s decision will clarify when the federal Securities Litigation Uniform Standards Act (“SLUSA”) preempts state-law securities class actions.
After Congress tightened the pleading and proof requirements for class actions under the federal securities laws in 1996 in the Private Securities Litigation Reform Act, plaintiffs fled to state court and started bringing securities class actions under state law. In response to this evasion, Congress enacted SLUSA, which precludes most state-law class action claims that allege “a misrepresentation or omission of a material fact in connection with the purchase or sale of” securities covered by the statute. 15 U.S.C. § 78bb(f)(1)(A). In the three Troice cases, the Supreme Court will determine when a misrepresentation is “in connection with” a securities transaction.
All three cases arise out of the Ponzi scheme that R. Allen Stanford allegedly operated. The plaintiffs had bought certificates of deposit from entities controlled by Stanford. CDs are not “covered securities” for SLUSA purposes. But the defendants argued that SLUSA barred the plaintiffs’ state-law claims because (1) plaintiffs had alleged that a representation that the CDs were backed by a diversified portfolio of marketable securities helped induce the CD purchases and (2) some buyers sold covered securities to fund their CD purchases.
The district court agreed with the defendants, but the Fifth Circuit reversed. Roland v. Green, 675 F.3d 503 (5th Cir. 2012). Adopting a Ninth Circuit test, the Fifth Circuit ruled that there had to be “a relationship in which the fraud and the stock sale coincide or are more than tangentially satisfied.” Id. at 520. That test was not satisfied, the Fifth Circuit concluded, because the allegation that the CD issuer’s portfolio was backed by covered securities was merely “tangentially related” to the “gravamen” of the alleged fraud that the CDs were a safe and secure investment. Several other circuits have taken different approaches, under some of which the plaintiffs’ claims would be preempted.
We intend to keep our eye on this case, which could have big implications for the wide variety of investment vehicles that may not be covered securities themselves but arguably benefit from the performance of covered securities.