The Ninth Circuit Court of Appeals recently addressed the pleading standard that applies to the loss causation element of a securities fraud claim. In Oregon Pub. Emp. Ret. Fund v. Apollo Group Inc., 2014 WL 7139634 (9th Cir. Dec. 16, 2014), the Ninth Circuit agreed with the Fourth, Seventh, and Second Circuits in ruling that the heightened pleading standards of Fed. R. Civ. P. 9(b) apply.
The Facts of the Case
Apollo Group Inc. (“Apollo”) is an Arizona-based company that owns and operates postsecondary education institutions, including the University of Phoenix. The plaintiffs, a class of investors, allege that Apollo and certain officers and directors made materially false and misleading statements concerning Apollo’s (1) enrollment and revenue growth, (2) financial condition, (3) organizational values, and (4) business focus in violation of section 10(b) of the Securities and Exchange Act and Securities and Exchange Commission Rule 10b–5. The district court dismissed the suit for failure to state a claim, and the plaintiffs appealed.
The Legal Background
To plead a claim under section 10(b) and Rule 10b–5, the plaintiffs must allege: (1) a material misrepresentation or omission; (2) scienter; (3) a connection between the misrepresentation or omission and the purchase or sale of a security; (4) reliance; (5) economic loss; and (6) loss causation. The circuit courts are divided over the pleading standard that applies to the loss causation element.
Several federal appeals courts have held that all elements of a securities fraud claim must satisfy the heightened pleading standards of Fed. R. Civ. P. 9(b) (“Rule 9(b)”) and the Private Securities Litigation Reform Act (“PSLRA”). Under Rule 9(b), “a party must state with particularity the circumstances constituting fraud or mistake.” Meanwhile, the PSLRA requires plaintiffs to “state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind.” The Fifth and Third Circuits, however, have held that the more lenient notice-pleading standard of Fed. R. Civ. P. 8(a) applies to loss causation.
The Ninth Circuit’s Ruling
The Ninth Circuit concluded that Rule 9(b) applies to all elements of a securities fraud action, including loss causation. According to the panel, the approach is appropriate for at least three reasons.
First, the court noted that the law on securities fraud is derived from common-law fraud. “Since Rule 9(b) applies to all circumstances of common-law fraud, and since securities fraud is derived from common law fraud, it makes sense to apply the same pleading standard to all circumstances of securities fraud,” the court wrote.
The Ninth Circuit further highlighted that its approach conforms to the plain language of the statute, which states that “[i]n alleging fraud or mistake, a party must state with particularity the circumstances constituting fraud or mistake.” As explained by the panel, loss causation “is part of the ‘circumstances’ constituting fraud because, without it, a claim of securities fraud does not exist.”
Finally, the Ninth Circuit noted that its approach creates a consistent standard through which to assess pleadings in 10(b) actions, rather than the piecemeal standard adopted by some courts.
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