Class Certification and the Burden of Persuasion
Class certification, which centers on the key element of reliance on the alleged misrepresentations, is often a critical question in securities class actions. While the burden of persuasion on the motion has been addressed in a number of decisions, critical issues frequently arise since the question can be outcome determinative for the case. The Supreme Court handed down a ruling on the question of the burden of persuasion at class certification that clarifies key points Goldman Sachs Group v. Arkansas Teacher Retirement System, No. 20-222 (decided June 21, 2021).
Respondent-Plaintiffs are shareholders of Goldman Sachs. They alleged violations of Exchange Act Section 10(b) and Rule 10b-5 based on an inflation maintenance theory. Using this theory Plaintiffs claimed that the price of Goldman shares remained artificially and inflated over a four-year period beginning in 2006 because of repeated false general statement about the firm’s conflict of interest policies in its SEC filings and annual reports. Those claims stated, for example, that the firm had “extensive procedures and controls” to address conflicts; that “our clients’ interests always come first;” and that “integrity and honesty are at the heart of our business.” In fact, Goldman engaged in several allegedly conflicted transactions without disclosing the conflicts, according to Plaintiffs.
The District Court certified the class. The Second Circuit initially held that Goldman had the burden of persuasion to prove a lack of price impact by a preponderance of the evidence. It then concluded that the District Court errored by holding the firm to a higher burden of proof. On remand the District Court again certified the class. This time the Court of Appeals affirmed the District Court decision but certified the appeal. The Supreme Court vacated the decision and remanded to the Circuit Court for reconsideration.
Justice Barrett, writing for the Court, began by noting that the key question centered on the element of reliance. While plaintiff in a fraud case may prove this element by demonstrating knowledge of the claimed fraudulent statement, in class actions proof of individual reliance is obviated by use of the “fraud-on-the-market theory adopted by the Court in Basic v. Levinson, 438 U.S. 224 (1088). Under that theory if the alleged misrepresentation was widely known, it was material and the market for the shares is efficient a presumption of reliance is established. Defendant can rebut the presumption by presenting evidence that severs the link between the alleged misrepresentation.
While the parties initially disputed the role of generic claims when invoking the presumption, they now agree that all evidence – general and specific – must be considered at class certification. The Court agreed. At certification it is important that the Court consider all evidence, aided by common sense the Court stated. Viewed in this context, the “generic nature of a misrepresentation often will be important evidence of a lack of price impact, particularly in cases proceeding under the inflation-maintenance theory” as here.
While the parties agreed that all evidence should be considered, the were unable to agree on the allocation of the burden of proof at class certification. Yet the Court’s decisions in Basic and Erica P. John Fund v. Halliburton, 563 U.S. 804 (2011) (Halliburton II), when fairly read, hold that “defendant bears the burden of persuasion to prove a lack of price impact,” Justice Barrett wrote. Under those decisions defendant must “in fact” “sever the link” between the misrepresentation and price paid by the plaintiff. This allocation of proof, however, is unlikely to have much impact on the “ground” according to the Court. This is because most parties at certification submit expert testimony. The task of the District Court is thus to sort the evidence and determine if it is “more likely than not that the alleged misrepresentations had a price impact. The defendant’s burden of persuasion will have bite only when the court finds the evidence is in equipoise – a situation that should rarely arise.”
While the Court’s opinion paints the determination of class certification as a straight-forward decision centered largely on sorting the evidence it is anything but. The certification question is key in many class actions. The expert testimony can be difficult to assess and evaluate. The decision can be outcome determinative of the case. Stated differently, it is often a critical decision. The resolution of Goldman does, however, clarify the process.