Academic journal article Defense Counsel Journal

Life after SLUSA: What Is the Fate of Holding Claims? the Pre-Emptive Force of the 1998 Legislation Should Not Upset the Long-Held Balance in the U.S. Federal System by Trumping All State Actions

Academic journal article Defense Counsel Journal

Life after SLUSA: What Is the Fate of Holding Claims? the Pre-Emptive Force of the 1998 Legislation Should Not Upset the Long-Held Balance in the U.S. Federal System by Trumping All State Actions

Article excerpt

IN AN EFFORT to protect corporations from abusive litigation, Congress passed the Private Securities Litigation Reform Act (Reform Act or PSLRA) in 1995, which made federal securities fraud class actions harder to maintain on a variety of fronts. One unforeseen consequence of the act was an increase in the filings of securities fraud actions in state courts, where plaintiffs could avoid the new, tougher federal standards. In 1998, Congress attempted to close this loophole with the Securities Litigation Uniform Standards Act (SLUSA), which pre-empts under the federal Constitution's supremacy clause certain state law securities fraud class actions.

SLUSA's effect is now being revealed. One noticeable trend has been the rise of so-called "holding claims"--that is, claims brought by non-transacting shareholders claiming damage because corporate misrepresentations induced them to hold their stock. Because the federal courts have held that these claims fall outside SLUSA's preemptive scope, they have become an attractive alternative for plaintiffs' lawyers. Although state holding claims have the potential to undermine the goals of the 1995 Reform Act, they rightly remain within the purview of state court jurisdiction, and Congress should not wield its pre-emption power in this arena.

1995 REFORM ACT

The 1995 Private Securities Litigation Reform Act (1) was passed after intense lobbying efforts persuaded Congress to take action to curb securities fraud "strike suits," meritless suits brought by class action plaintiffs' lawyers to extort settlement and attorneys' fees. (2) The joint explanatory. statement of the conference committee stated, "The private securities litigation system is too important to the integrity of American capital markets to allow this system to be undermined by those who seek to line their own pockets by bringing abusive and meritless suits." (3)

The Reform Act responded to these perceived abuses by creating certain procedural barriers that make it more difficult to sustain securities fraud class actions in federal court. It heightened pleading standards required to state a private federal securities fraud claim, for instance, by raising the standard for pleading scienter, and it imposed a discovery stay during the pendency of a motion to dismiss, thus preventing plaintiffs from using discovery to satisfy pleading requirements. The act also created a safe harbor for forward-looking statements either accompanied by meaningful cautionary language or made without actual knowledge of their falsity.

But while the Reform Act severely curtailed the ability to maintain strike suits in federal court, it did nothing to address similar suits brought in state courts based on state blue sky laws or common law. Corporate lobbies, particularly Silicon Valley technology firms, which are especially susceptible to strike suits because of their volatile stock prices, returned to Capitol Hill. (4) They argued that plaintiffs' lawyers were evading the restrictions created by the Reform Act and undermining its purpose by filing securities fraud actions in state rather than federal court. Particularly, it was contended, parallel litigation in state courts allowed plaintiffs to circumvent the federal discovery stay and that the migration of suits to state courts all but eviscerated the Reform Act's safe harbor for forward-looking statements. (5)

Congress responded by enacting SLUSA, (6) which preempts under the supremacy clause certain state law securities fraud claims by allowing automatic removal to federal court, followed by dismissal. "By steering most securities fraud cases to the federal courts, SLUSA intended to `prevent plaintiffs from seeking to evade the protections that federal law provides against abusive litigation by filing suit in state, rather than federal, court.'" (7)

SCOPE OF SLUSA

The act itself provides only general guidance as to the precise scope of SLUSA's pre-emptive force. …

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