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The answer is that our system of securities litigation revolves around a carefully constructed set of procedural and substantive rules that parallel state court litigation subverts.This, in turn, imposes inordinate risk of liability and litigation burdens.The key provisions of the 1933 Act are Section 11, which establishes that any purchaser of a security may bring a private action for damages against the issuer if the registration statement is false or misleading, and Section 12(a)(2), which similarly establishes a private right of action against any person who offers or sells a security through a prospectus or oral communication that is false or misleading. The key provision of the 1934 Act is Section 10(b), which, along with Securities and Exchange Commission (“SEC”) Rule 10b-5 promulgated thereunder, broadly prohibits deception, misrepresentation, and fraud “in connection with the purchase or sale of any security” based on any public corporate statement. Unlike with Section 11 or 12(a)(2) cases under the 1933 Act, the 1934 Act established that federal courts have exclusive jurisdiction over cases brought under Section 10(b). that Section 10(b) contains an implied right of action. But the Court repeatedly declined to expand the scope of the implied private right of action – which it described as “a judicial oak which has grown from little more than a legislative acorn” – largely due to policy concerns related to the danger that Rule 10b-5 will be used as a vehicle for particularly vexatious litigation. Throughout its securities jurisprudence, the Court has long balanced the goal of preventing corporate fraud with the need to protect against “open-ended litigation [that] would itself be an invitation to fraud.” Maintaining this balance is especially important because it is shareholders who “ultimately bear the burden” of meritless litigation. By the 1990s, private securities litigation had gotten out of control.The class action mechanism had enabled plaintiffs’ lawyers to file abusive “strike suits” targeting deep-pocketed defendants, often on behalf of “professional plaintiffs” with only nominal holdings in the company. Congress found that these abuses resulted in extortionate settlements, chilled discussion of issuers’ future prospects, and deterred qualified individuals from serving on boards of directors, injuring the “investing public and the entire U. economy[.]” Shareholders bear the brunt of these abuses; “[i]nvestors always are the ultimate losers when extortionate ‘settlements’ are extracted from issuers.” To protect the interests of shareholders and the economy as a whole, and to restore balance to the system to enable it to function fairly and efficiently once again, the Reform Act implemented procedural reforms designed to discourage plaintiffs from filing abusive cases and encourage defendants to fight them. As a complement to the heightened pleading standards, the Reform Act also amended both the 1933 Act and the 1934 Act to establish an automatic stay of discovery while any motion to dismiss is pending. The automatic stay enables defendants to seek dismissal of unsupported claims before having to face “fishing expeditions” or exorbitant discovery costs. Prior to the Reform Act, securities plaintiffs were able to file lawsuits without even knowing the basis for their own claims, and could “search through all of the company’s documents and take endless depositions” in an effort to find one. The high costs associated with responding to such invasive discovery often coerce defendants into settling even frivolous lawsuits.
This is precisely what Congress set out to do when it passed SLUSA.
The Supreme Court acknowledged that it does “not know why Congress declined to require that 1933 Act class actions be brought in federal court,” as Congress had with claims under the Exchange Act. But the Supreme Court held that it “will not revise that legislative choice,” noting that it “has no license to disregard clear language based on an intuition that Congress must have intended something broader.” What Is Wrong With Parallel State and Federal Securities Class Actions?
It is fair to ask why it is unfair to force defendants to defend themselves in state and federal court.
But because the Reform Act made it more difficult for unmeritorious suits to survive past the pleading stage in federal court, it had the “unintended consequence” of “prompt[ing] at least some members of the plaintiffs’ bar to avoid the federal forum altogether” by filing class actions in state court instead. Congress enacted the Securities Litigation Uniform Standards Act (“SLUSA”) to prevent such circumvention of the Reform Act and to ensure that class actions involving nationally traded securities would be subject to “uniform standards” under a single federal framework.
SLUSA accomplishes this goal by eliminating state court jurisdiction over “covered class actions,” broadly defined as any damages action on behalf of more than 50 people.
For instance, plaintiffs alleging false or misleading corporate statements in the context of an initial public offering (“IPO”) almost invariably challenge these same statements under both Section 11 and Section 10(b).