In the last year, New York state courts have seen a wave of putative shareholder class actions filed against securities issuers and underwriters asserting claims under the Securities Act of 1933.
The wave follows the U.S. Supreme Court’s 2018 decision in Cyan Inc. v. Beaver County Employees Retirement Fund holding that such cases can proceed in state court.
Ever since, securities issuers and underwriter defendants, as well as shareholder plaintiffs, have faced considerable uncertainty as to how Securities Act cases will be handled in state court.
A series of recent decisions from the Commercial Division of the New York state Supreme Court on motions seeking stays of discovery and other proceedings, as well as a motion to dismiss, provide some guidance for parties litigating these types of claims.
Stay of Early Discovery
Uncertainty abounds on the question of whether discovery can proceed before a motion to dismiss is decided. Although it is well-settled in federal court that the Private Securities Reform Act of 1995 (PSLRA) bars all discovery pending a court’s decision on a motion to dismiss, putative securities plaintiffs and their counsel have begun to challenge the statute’s application in New York state court, arguing, notwithstanding the PSLRA stay’s application to “any private action arising under” the Securities Act, that the statutory stay is a procedural rule that only applies in federal court.
With no binding precedent answering the question of whether the PSLRA stay applies in state court, initial rulings from the Commercial Division have been divided. One court has ruled twice in May and August that the PSLRA’s automatic stay does not apply in New York state court, reasoning that applying the stay could undermine Cyan’s ruling that Securities Act claims be heard in state court. In re PPDAI Group Securities Litigation, Index No. 6544482/2018 (Scarpulla, JSC); In re Dentsply Sirona, Inc. Shareholders Litigation, Index No. 155393/2018 (Scarpulla, JSC).
On Aug. 6, another court ruled the opposite way, holding that the PSLRA stay applies in part because “[t]here simply is no basis to find that Congress intended for this provision to only apply to actions brought in federal court.” In re EverQuote Inc. Sec. Litig., Index No. 651177/2019, NYSCEF 73 at 16-17 (Borrok, JSC).
Securities class action discovery can be costly and distracting to an issuer’s management, particularly for smaller issuers. By contrast, it is relatively easy for a putative securities plaintiff shareholder to file a bare-bones complaint after an issuer’s stock price drops significantly, alleging in hindsight that something in an issuer’s securities offering documents must have been false or misleading.
Until the Appellate Division is able to weigh in on the application of the PSLRA stay, defendants in Securities Act cases in the Commercial Division should be prepared for plaintiffs to attempt to obtain early discovery.
Stays in Favor of Related Federal Securities Cases
Since the doors of New York state’s courthouses opened to Securities Act class actions, another dynamic has emerged: parallel state and federal cases asserting overlapping securities claims. Recent decisions have demonstrated that the Commercial Division may not defer to related federal court proceedings.
Defendants in several cases have moved to stay Commercial Division cases in favor of related later-filed federal cases, arguing that the federal actions are more comprehensive, federal courts are more experienced with such cases, and the duplicative litigation would be prejudicial to defendants.
In four separate decisions in the last two months, Commercial Division judges have denied those motions. Hoffman v. AT&T Inc., Index No. 650797/2019 (Ostrager, JSC); In re PPDAI Group Securities Litigation, Index No. 6544482/2018 (Scarpulla, JSC); In re Dentsply Sirona Inc. Shareholders Litigation, Index No. 155393/2018 (Scarpulla, JSC); Araujo v. Uxin Limited, Index No. 650613/2019 (Borrok, JSC).
These cases cited the applicability of the “first filed” rule in determining the need for a stay and, moreover, confirmed the suitability of state courts to deal with Securities Act claims and rejected claims of prejudice, with one court noting that “the mere fact that the defendants have to defend two actions instead of one does not constitute prejudice.” Araujo, No. 650613/2019, NYSCEF 34 at 2.
Based on these decisions, defendants should not expect to obtain a stay of a Securities Act case in the Commercial Division in favor of a related later-filed federal court proceeding pending a decision from the Appellate Department addressing this series of rulings.
Decisions on Motions to Dismiss
Although conventional wisdom in the defense bar is often that state courts are less inclined to grant a motion to dismiss a securities case than a federal court may be, it remains to be seen whether this will hold true in New York state court.
Just last month, in the first post-Cyan decision from a New York state court on a motion to dismiss a Securities Act case, Justice Andrew Borrok dismissed a putative class action complaint in Netshoes Securities Litigation, Index No. 157435/2018. Although the court granted plaintiffs leave to amend, the court carefully applied several key pleading requirements for Securities Act cases that federal courts have developed over the years.
While it is still early in the history of putative securities class actions proceeding in New York state courts, these recent decisions suggest that the Commercial Division bench is willing and able to move them along like any other case.
For issuers and underwriters alike, however, significant uncertainty remains about whether and to what extent state courts will work alongside parallel federal securities action, whether defendants will face early and onerous discovery before a motion to dismiss is decided, or whether the Commercial Division (and Appellate Division) will adopt well-settled federal court precedent governing Securities Act claims.
Only time will tell.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Andrew J. Finn is a partner in Sullivan & Cromwell’s Litigation Group and a member of the securities litigation practice. His practice focuses on complex commercial disputes in court and arbitration proceedings.
Inbar R. Gal is an associate in Sullivan & Cromwell’s Litigation Group and a member of the securities litigation, arbitration and products liability & mass torts practices.
Elizabeth V. Young is an associate in Sullivan & Cromwell’s Litigation Group and a member of the securities litigation and products liability & mass torts practices.
Sullivan & Cromwell LLP represents certain defendants in the AT&T Inc., EverQuote, and Netshoes cases mentioned in this column.