Opinion
Consolidated Case Nos. 2:05-cv-0819, 2:05-cv-0848, 2:05-cv-0860, 2:05-cv-0879, 2:05-cv-0893, 2:05-cv-0913, 2:05-cv-0959, 2:05-cv-0964, 2:05-cv-0998, 2:05-cv-1084.
August 26, 2008
OPINION AND ORDER
These securities cases are before the Court to consider defendants' motion to exclude improper evidence and to quash subpoena and document request (#225 in Case No. 2:05-cv-819). The motion poses the question of whether plaintiffs have the affirmative burden of showing, as part of the class certification process, that there is a causal relationship between the securities law violations they allege in this case and the drop in the price of Abercrombie Fitch stock about which they complain which goes beyond showing that the stock was traded in an efficient market. For the following reasons, the Court concludes that whether or not they have this burden, defendants' motion should be denied.
I.
Procedurally, this issue arose after defendants filed their memorandum opposing class certification on June 23, 2008. One of the exhibits to the memorandum is a "Class Certification Report" written by Dr. Christopher Barry. Dr. Barry says in that report, in paragraph 7(c), that the plaintiffs "have provided no economic evidence of loss causation in this matter." By that, he means that plaintiffs have not yet shown that the drop in Abercrombie's stock price which happened on August 17, 2005, was caused by the disclosure of certain material information which, according to plaintiffs, was deliberately or recklessly withheld from the public by Abercrombie in order to keep its stock price at an artificially high level. Dr. Barry reports that a number of things happened on August 16, 2005 that affected the per-share price of Abercrombie's stock on the following day, and that plaintiffs haven't separated out these factors in a way that would show a causal relationship between the securities law violations they allege and the drop in stock price.
Plaintiffs agree that this was not an issue they addressed in their memorandum supporting class certification. Once they learned that defendants intended to make an issue of "loss causation" in connection with class certification proceedings, they sent a subpoena to Dr. Barry asking for a deposition and for documents. They also suggested to defendants that they would be producing their own expert report disputing Dr. Barry's conclusions.
Defendants believe that plaintiffs have no right to do more discovery on any issue relating to class certification because the cutoff date for such discovery has passed. Additionally, they believe that plaintiffs can't call an expert on the loss causation issue. Their argument is based on Local Civil Rule 7.2(d)'s requirement that a party who files a motion must file any supporting evidence (such as an expert report) along with the motion. It is also based on the assertion that "plaintiff has the burden of offering loss causation proof as part of its class certification motion. . . ." Defendant's motion (#225), at 5. The crucial question which the parties have asked the Court to decide is whether this assertion is a correct statement of the law in this circuit.
II.
Class certification proceedings are governed by Fed.R.Civ.P. 23. In order to certify a class, the Court must find, under Rule 23(a), that the standard elements of a class — numerosity, commonality, typicality, and adequacy of the class representatives — have been met, and that, in a damages action such as this one, Rule 23(b)(3) is satisfied as well. No one seriously disputes that the party advocating the certification of a class must offer proof on these factors. In other words, "[t]he party seeking the class certification bears the burden of proof."In re American Medical Systems, Inc., 75 F.3d 1069, 1079 (6th Cir. 1996)."Loss causation" is not a factor listed in Rule 23. In a securities case, any issue relating to causation is an element of the plaintiff's cause of action. See 15 U.S.C. § 78u-4(b)(4) ("Loss causation. In any private action arising under this chapter, the plaintiff shall have the burden of proving that the act or omission of the defendant alleged to violate this chapter caused the loss for which the plaintiff seeks to recover damages."); see also Dura Pharm., Inc. v. Broudo, 544 U.S. 336, 345-47 (2005). Ordinarily, the Court should not consider the merits of the case when deciding if a class should be certified. The Court of Appeals has stated this plainly, noting that "when determining the maintainability of a class action, the district court must confine itself to the requirements of Rule 23 and not assess the likelihood of success on the merits." Weathers v. Peters Realty Corp., 499 F.2d 1197, 1201 (6th Cir. 1974). Given the apparent clarity of these precepts, one might well ask why the defendants in this case are so insistent that plaintiffs will have to prove loss causation as part of the class certification proceedings (and, more to the point, that they were required to tender any proof on that point as part of their opening brief on the subject of class certification). The answer lies in the Court of Appeals for the Fifth Circuit's decision in Oscar Private Equity Investments v. Allegiance Telecom, Inc., 487 F.3d 261 (5th Cir. 2007).
Oscar involved an alleged misstatement by Allegiance Telecom concerning the number of its installed communication lines. After three quarters of reporting increases in that number, Allegiance released a report which restated the number of lines, decreasing that number by almost ten percent. Not surprisingly, its share price dropped, although the same quarterly report contained other bad news for the company. The plaintiffs, who had purchased stock in the nine months before the line count was restated, sued on a "fraud on the market" theory and moved for class certification. The district court certified a class. The Court of Appeals reversed.
The court's decision to reverse was based on the following reasoning process. The court first noted that the plaintiffs' theory of recovery, fraud on the market, "permits a trial court to presume that each class member has satisfied the reliance element of their 10b-5 claim." Id. at 264. "Without this presumption, questions of individual reliance would predominate, and the proposed class would fail." Id. Thus, even at the class certification stage, a merits issue like loss causation can and should be considered as long as that issue "overlaps" with one of the Rule 23 prerequisites. Id. at 266-69. In that court's view, there was an overlap between the Rule 23 issue, namely whether questions of individual reliance dominated issues common to all class members, and the loss causation issue, and the latter was therefore a proper subject of the class certification proceedings. The court did not directly place the burden of raising the issue on the plaintiffs, but did hold "that loss causation must be established at the class certification stage by a preponderance of all admissible evidence." Id. at 269.
The Oscar decision was not unanimous. The dissenting judge argued that the majority erred both in its analysis of loss causation in the context of a fraud on the market theory of causation and in requiring proof of loss causation at the class certification stage. At least two subsequent district court decisions have agreed with the dissent. See In re Micron Technologies, Inc. Securities Litigation, 247 F.R.D. 627 (D.Idaho 2007) (holding that in a fraud on the market case, plaintiff's burden at the class certification stage is only to demonstrate that the shares in question were traded in an efficient market);Darquea v. Jarden Corp., 2008 WL 622811 (S.D.N.Y. March 6, 2008) (also holding that the only showing which must be made at the class certification stage is the purchase of shares in an efficient market, and that even if defendants argue that the presumption of reliance upon the market will be rebutted by evidence that the named plaintiff would have purchased the stock in any event, that defense is not really material to any issue under Rule 23). No other Court of Appeals, and no district court outside the Fifth Circuit, appears to have followed Oscar.
III.
The defendants' motion presents a mixture of substantive and procedural issues. The substantive issue, of course, is whether this Court will either permit or require, as part of its class certification proceedings, proof on the loss causation issue beyond the fact (which is apparently not disputed) that Abercrombie stock was being traded in an efficient market during the class period. That issue will ultimately be determined by Judge Sargus, because he will be the one to decide whether to certify a class and whether the plaintiffs' evidence on the prerequisites for class certification is sufficient. Given that fact, the procedural issue presented by defendants' motion is not as straightforward as it might first appear. In the Court's view, the procedural question is not completely answered even were the Court to agree with defendants and apply the holding ofOscar here. Rather, the Court must also take into account whether plaintiffs should reasonably have anticipated that possibility. If the answer to that question is no, it would seem manifestly unfair to hold that they effectively waived their ability either to present evidence of loss causation in the class certification proceedings, or to explore the basis of Dr. Barry's report, because they did not present evidence on that issue as part of their opening class certification memorandum. When the issue is reconceptualized to include this inquiry, the proper disposition of defendants' motion becomes clear.
First, the Court is persuaded by its review of the law thatOscar does not represent an obvious application of the principle (which is, of itself, relatively well-accepted) that when Rule 23 and merits issues overlap, the court may (and perhaps must) consider the overlapping merits issues at the class certification stage. Other courts besides the Oscar panel have so held. See, e.g., In re Initial Public Offering Securities Litigation, 471 F.3d 24 (2d Cir. 2006). Nevertheless, Oscar certainly stretches the contours of that rule in a way which is somewhat unique to the Fifth Circuit due to the way in which that circuit has defined loss causation in the context of a fraud on the market case. Oscar itself seems to recognize this fact, noting that it has used the "room" provided to each circuit to develop rules for evaluating fraud on the market cases to "tighten the requirements for plaintiffs seeking a presumption of reliance" under that theory. Oscar, 487 F.3d at 269, citing Basic Inc. v. Levinson, 485 U.S. 224, 244 (1988). Second, Oscar decided that this unique reliance rule is related to the issue of whether common issues of fact and law will predominate in the underlying securities case, a Rule 23 inquiry. Given that no district court within this circuit (or any other save the Fifth Circuit) has expressed agreement with either of these propositions, the plaintiffs here were not reasonably placed on notice that this would be an issue in the class certification process. The fact that defendants identified this defense in their earlier-filed motion to dismiss does not mean that plaintiffs should have understood it to apply not just to the merits of their claims but also to their request for class certification. In fact, it is still an open question as to whether it will have an impact on that issue. Consequently, the Court concludes that a reasonable plaintiff would not have understood that by failing to address the issue in the opening brief on class certification, the ability to do so later would be severely curtailed.
This fact effectively distinguishes this case from Bovee v. Coopers Lybrand, 216 F.R.D. 596 (S.D.Ohio 2003). There, the Court excluded two types of affidavits from consideration on the class certification issue because they were not submitted with the opening brief. Some of the affidavits addressed the question of whether the named plaintiffs were adequate class representatives, a factor upon which a party moving for class certification clearly bears the burden of proof. The other excluded affidavit addressed the question of whether the securities in question were traded in an efficient market. TheBovee plaintiffs had actually anticipated that question being at issue in the class certification process because they addressed it in their opening brief. The Court observed that "plaintiffs put forth evidence in support of their motion to certify that MAW was traded on an efficient market." Id. at 600. Further, the witness himself stated that he had prepared an affidavit addressing this question well before the opening brief was filed. Finally, the question of whether a fraud on the market theory is even viable because of the absence of an efficient market is a question much more closely related to class certification than is the question of whether, even in an efficient market situation, the presumption of reliance (or proof of causation) can be rebutted by other evidence such as the making of multiple negative statements in a single public statement. In the former situation, the absence of an efficient market weighs heavily in favor of a finding that reliance will necessarily be an individualized determination. In the latter situation, unless one resides in the Fifth Circuit, there is likely to be a presumption in favor of reliance that benefits all class members who traded during the class period. Consequently, Bovee does not stand for the proposition that a securities plaintiff must anticipate that any merits defense raised either in a prior motion to dismiss or in a pleading will become an issue at the class certification stage. Clearly, it depends on what the merits issue is and how closely it relates to one of the Rule 23 factors. Thus, Bovee does not help the defendants here.
The remaining question is what relief should be afforded to the plaintiffs once defendants made it clear that they would try to persuade this Court to follow Oscar. One possibility would be to have the parties complete briefing on the class certification question and to include in that briefing all of the legal arguments about whether Oscar should apply. The Court could then decide either that it should not, in which case Dr. Barry's report is simply irrelevant, or that it should. In that latter case, it would then be necessary, in order to be completely fair to the plaintiffs, to open the record and the discovery period to allow them to address the facts adduced in support of defendants' loss causation defense. That procedure might save the parties some time and expense in the short term, but because defendants will also pursue this defense in connection with the merits of the case, it does not have a long-term benefit.
The other possibility is to allow plaintiffs to complete their factual response to this defense now and to include that response, along with their legal arguments about Oscar, in their reply brief. This approach may delay to some extent the resolution of the class certification proceedings, but it has the advantage of allowing the Court to have before it everything it needs to make a decision about class certification no matter which way it resolves the Oscar issue. Further, plaintiffs' request for additional proceedings does not seem to involve either an inordinate amount of discovery or an inordinate amount of time. They wish to get any documents relied on by Dr. Barry in preparing his report, to depose him, and to present their own expert report. The defendants concede that a true rebuttal expert report would be allowed even if they prevail on their motion to quash and exclude, so having that expert include some additional material on the loss causation issue will not unduly prolong or complicate the proceedings. The Court chooses this second option as a better use of both the parties' and the Court's resources. It will, however, require the parties to confer in good faith to determine an appropriate schedule for these activities.
IV.
For the foregoing reasons, defendants' motion to quash and exclude (#225) is denied. Within fifteen days of the date of this order, the parties shall submit to the Court a proposed schedule that suggests realistic dates for compliance with the plaintiffs' subpoena for documents and for a deposition of Dr. Barry and for the filing of a reply memorandum in support of the motion for class certification which may include an expert report on the issue of loss causation. If they are unable to agree on such dates, they shall promptly contact the Court to arrange for a telephonic status conference.
Any party may, within ten (10) days after this Order is filed, file and serve on the opposing party a motion for reconsideration by a District Judge. 28 U.S.C. § 636(b)(1)(A), Rule 72(a), Fed.R.Civ.P.; Eastern Division Order No. 91-3, pt. I., F., 5. The motion must specifically designate the order or part in question and the basis for any objection. Responses to objections are due ten days after objections are filed and replies by the objecting party are due seven days thereafter. The District Judge, upon consideration of the motion, shall set aside any part of this Order found to be clearly erroneous or contrary to law.
This order is in full force and effect, notwithstanding the filing of any objections, unless stayed by the Magistrate Judge or District Judge. S.D. Ohio L.R. 72.4.