Weil, Gotshal & Manges LLP
Eighth Circuit Affirms Injunction Against State Court Securities Class Action
(February 2002, Business & Securities Litigator)
By Paul Dutka and Joshua S. Amsel
In successive decisions in the
same case, the United States Court of Appeals for the Eighth Circuit recently
addressed several issues of importance to securities litigators. In
the first decision, In re BankAmerica Corp. Securities Litigation, 263
F.3d 795 (8th Cir. 2001) (“BankAmerica I”), the court held that the “lead-plaintiff”
provisions of the Private Securities Litigation Reform Act (“PSLRA”)
create significant federal rights by conferring control over a federal
securities class action on the class member with the greatest financial
stake, and that to protect those significant federal rights, the district
court had properly enjoined a competing state court class action. In
the state court class action, plaintiffs had instituted premature settlement
negotiations that threatened to release the federal claims, in what the
district court characterized as “precisely the sort of lawyer-driven machinations
the PSLRA was designed to prevent.” In re BankAmerica Corp. Securities
Litigation, 95 F. Supp. 2d 1044, 1050 (E.D. Mo. 2000), aff’d, 263 F.3d
795 (8th Cir. 2001).
In the second decision, In re BankAmerica Corp. Securities Litigation,
270 F.3d 639 (8th Cir. 2001) (“BankAmerica II”), the Court of Appeals
issued a writ of mandamus after the district court ordered production,
under the crime-fraud exception to the attorney-client privilege, of documents
defendants claimed reflected legal advice relating to the central disclosure
issue in the case: whether before its merger with NationsBank, BankAmerica
should have disclosed that it was about to take a $372 million charge-off
for bad loans.
This month’s issue presents an analysis of BankAmerica I. An analysis
of BankAmerica II will appear in next month’s issue.
* * *
BankAmerica I – Factual Background And Summary Of Proceedings
Fifteen days after the September 1998 merger of BankAmerica and NationsBank,
the merged corporation announced that it would write off $372 million for
a bad loan made by the old BankAmerica. BankAmerica I, 263 F.3d at
798. The merged corporation’s shares plummeted. Id. (citing
In re BankAmerica Corp. Sec. Litig., 78 F. Supp. 2d 976, 983-84 (E.D. Mo.
Within a month, stockholders of
the predecessor companies commenced twenty-four federal class actions in
six federal district courts. BankAmerica I, 263 F.3d at 798. One
of these federal cases was filed by Milberg, Weiss, Hynes & Lerach
(“Milberg Weiss”), which also filed five class actions in California
state court.1 The twenty-four federal class actions were consolidated
and transferred to the Eastern District of Missouri. The district
court appointed lead counsel pursuant to the PSLRA, certified the consolidated
federal actions as a class action, and certified four separate plaintiff
classes. Id. After not being appointed lead counsel, Milberg
Weiss sought a voluntary dismissal of its client from the federal action.
The state court actions filed by Milberg Weiss were consolidated in California
Superior Court as Desmond v. BankAmerica Corp., No. 998629 (Cal. Super.
Ct.). BankAmerica I, 263 F.3d at 798. Plaintiffs’ initial
motion in Desmond for class certification was denied because the proposed
lead plaintiffs, apparently stockholders of only the old BankAmerica, were
not deemed representative of the whole class. Id.
After adding new plaintiffs, on
November 17, 1999, Milberg Weiss filed plaintiffs’ second motion for class
certification Id. at 799. But before the hearing on this certification
motion, defendants filed a notice of removal under SLUSA. Id. Although
SLUSA was enacted after the initial filing of the state court class actions,
defendants argued that the addition of new class representatives created
a new action, and was thus subject to SLUSA, which became effective on
November 3, 1998. Id. The district court determined that removal
at this point – before new class representatives were certified – was
premature, but noted that adding new parties or claims to the original
complaint would bring the action under SLUSA, triggering the statute’s
30-day period for removal. Id.
Milberg Weiss then informed the California Superior Court that the Desmond
plaintiffs wished to resubmit a proposed order of class certification that
would not add new parties, but would nevertheless resolve the issues underlying
the denial of plaintiffs’ first certification motion. Id. Plaintiffs
then filed a third motion for class certification. That motion, however,
was withdrawn from the court’s calendar after the parties agreed to pursue
a mediated settlement. Id.
Meanwhile, arguing that the California
proceeding undermined the lead-plaintiff provisions of the PSLRA, plaintiffs
in the federal class action moved in November 1999 to enjoin the Desmond
action. Id. The district court granted the injunction, holding
that the PSLRA clearly created federal rights that could be given their
intended scope only if the state court proceeding was enjoined. Thus,
the injunction fell, as explained below, within the “expressly authorized”
exception to the Anti-Injunction Act. BankAmerica, 95 F. Supp. 2d
Moreover, the district court noted that although the financial stake of
the federal plaintiffs dwarfed that of the Desmond plaintiffs, the Desmond
plaintiffs nevertheless had entered into settlement negotiations, threatening
the release of the federal plaintiffs’ claims, after only “minimal written
discovery and document exchanges” and before taking even one deposition.
Id. at 1050.
The [Desmond] plaintiffs, with one-twenty-sixth the financial stake of
the federal plaintiffs, have succeeded in having premature settlement negotiations
ordered by the California court. They have not been certified as
representatives of the class; in fact, they only represent seven individual
persons at this time. No depositions, including depositions of high-ranking
officials involved in the alleged fraud, have been taken. Further,
only minimal written discovery and document exchanges have occurred at
this time, yet the Desmond plaintiffs are in the position to begin negotiating
a settlement of all class claims on behalf of all class members, including
the federal plaintiffs herein.
Id. The district court continued:
“[The lead-plaintiff provisions of the PSLRA cannot] be given [their]
intended scope if competing state court plaintiffs, representing a significantly
smaller number of shares, [could] institute premature settlement negotiations
which threaten the orderly conduct of the federal case and which could
result in the release of the federal claims.”2 Id. at 1049.
The district court stated that Desmond involved “precisely the sort of
lawyer-driven machinations the PSLRA was designed to prevent,” and that
Desmond was “nothing more than a thinly-veiled attempt to circumvent federal
law.” Id. at 1050.
The district court’s injunction: (1) barred the named state court
plaintiffs from prosecuting any class action claims arising out of the
BankAmerica-NationsBank merger; (2) barred the California court from certifying
any plaintiff classes; (3) barred the California court from ordering any
alternative dispute resolution and directed the court to stay any alternative
dispute resolution that had already been ordered; and (4) established procedures
for the Desmond plaintiffs to opt out of any class certified by the federal
court in order to pursue individual actions. Id. at 1053-54.
The Desmond plaintiffs then appealed
to the Court of Appeals for the Eighth Circuit.
The Anti-Injunction Act And The “Expressly Authorized” Exception
The Anti-Injunction Act, 28 U.S.C. § 2283, provides: “A court of
the United States may not grant an injunction to stay proceedings in a
State court except as expressly authorized by Act of Congress, or where
necessary in aid of its jurisdiction, or to protect or effectuate its judgments.”
28 U.S.C. § 2283. The Anti-Injunction Act is predicated on
principles of federalism and comity:
Principles of federalism and comity require that federal courts, “anxious
though [they] may be to vindicate and protect federal rights and federal
interests, always endeavorto do so in ways that will not unduly interfere
with the legitimate activities of the States.” In the context of
the Anti-Injunction Act, these principles demand that “any doubts as to
the propriety of a federal injunction against state court proceedings should
be resolved in favor of permitting the state courts to proceed in an orderly
fashion to finally determine the controversy.”
BankAmerica I, 263 F.3d at 803
(citations omitted); see also Younger v. Harris, 401 U.S. 37, 44 (1971)
(describing federalism as “a system in which there is sensitivity to the
legitimate interests of both State and National Governments, and in which
the National Government, anxious though it may be to vindicate and protect
federal rights and federal interests, always endeavors to do so in ways
that will not unduly interfere with the legitimate activities of the States”).
The “expressly authorized” exception to the Anti-Injunction Act, which
permits a federal court to enjoin a state court proceeding when doing so
is “expressly authorized by Act of Congress,” is based on the premise
that, “because Congress enacted the general prohibition on injunctions,
it may also create exceptions to that general prohibition.” Andrew
S. Weinstein, Avoiding the Race to Res Judicata: Federal Antisuit
Injunctions of Competing State Class Actions, 75 N.Y.U. L. Rev. 1085, 1098,
1100 (Oct. 2000). In Mitchum v. Foster, 407 U.S. 225 (1972), the
Supreme Court articulated the test for determining whether the federal
law in question expressly authorizes a federal court to enjoin a state
[A]n Act of Congress must have
created a specific and uniquely federal right or remedy, enforceable in
a federal court of equity, that could be frustrated if the federal court
were not empowered to enjoin a state court proceeding... The test ... is
whether an Act of Congress, clearly creating a federal right or remedy
enforceable in a federal court of equity, could be given its intended scope
only by the stay of a state court proceeding.
Id. at 237-38. Moreover, “a federal law need not expressly authorize
an injunction of a state court proceeding in order to qualify as an exception.”
Id. at 237.
The Lead-Plaintiff Provisions Of The PSLRA Create Federal Rights Authorizing
As the Eighth Circuit explained in BankAmerica I, Congress, in enacting
the PSLRA, “sought to address abusive practices such as ‘strike suits’
by professional plaintiffs and their attorneys by (1) entrusting lead plaintiff
status to the plaintiff with the largest financial interest in the relief
sought by the class, 15 U.S.C. §§ 77z-1(a)(3)(B), 78u-4(a)(3)(B); (2) requiring
those seeking lead-plaintiff status to certify that they did not purchase
the security at issue at the direction of counsel or in order to participate
in a private securities lawsuit, 15 U.S.C. §§ 77z-1(a)(2)(A)(ii), 78u-4(a)(2)(A)(ii);
(3) requiring court permission for those who seek to serve as lead plaintiff
in a securities class action more than five times in any three-year period,
15 U.S.C. § 77z1(a)(3)(B)(vi); and (4) granting lead plaintiff the right
to select class counsel, subject to court approval, 15 U.S.C. § 77z-1(a)(3)(B)(v).”
BankAmerica I, 263 F.3d at 800 (footnote omitted).
The Court continued that here,
“[p]laintiffs’ attorneys ... were able to thwart the PSLRA’s reforms
by turning to state courts, thereby subjecting publicly traded corporations
to an array of differing state-court practices.”3 Id. “It
can hardly be gainsaid that the right to steer litigation of this magnitude
is an important privilege. The lead plaintiff’s control over aspects
of litigation such as discovery, choice of counsel, assertion of legal
theories, retention of consultants and experts, and settlement negotiations
gives the lead plaintiff decisional muscle that other members of the class
lack. The very fact of the Desmond plaintiffs’ flight to state court
bespeaks the significance of this position.” Id. at 801.
The Court of Appeals rejected the Desmond plaintiffs’ contrary arguments.
First, the Desmond plaintiffs attempted to characterize the rights
created by the lead-plaintiff provisions of the PSLRA as merely procedural.
Id. But the Court held that although the PSLRA’s “mechanism”
for selecting the lead plaintiff is procedural, “the consequences of that
mechanism have great significance for plaintiffs in class-action securities
litigation.” Id. The Court cited its decision in Stockslager
v. Carroll Elec. Coop. Corp., 528 F.2d 949 (8th Cir. 1979), affirming the
district court’s grant of a similar injunction, id. at 952, because, much
like the PSLRA, the federal legislation at issue there, the National Environmental
Policy Act (“NEPA”), although procedural in nature, “reflects certain
substantive policy judgments.” BankAmerica I, 263 F.3d at 801-802
(citing Vermont Yankee Nuclear Power Corp. v. NRDC, 435 U.S. 519, 558 (“NEPA
does set forth significant substantive goals for the Nation, but its mandate
to the agencies is essentially procedural.”)).
Second, the Desmond plaintiffs argued that allowing an injunction under
the PSLRA would render the reforms of SLUSA superfluous. BankAmerica
I, 263 F.3d at 802. Rejecting this argument, the Court held that
“SLUSA as a whole goes farther than authorizing injunctions against state-court
class actions, it forbids the bulk of such actions from ever being filed....”
Third, the Desmond plaintiffs argued that the injunction was an “impermissible
effort to prevent a state-court settlement that would release federal claims.”
Id. In support of this argument, the Desmond plaintiffs relied
on Matsushita Elec. Indus. Co. v. Epstein, 516 U.S. 367 (1996), which held
that the Full Faith and Credit Act, 28 U.S.C. § 1738, requires federal
courts to give full faith and credit to a state court settlement even if
the settlement releases claims within the exclusive jurisdiction of the
federal courts, and National Basketball Ass’n v. Minnesota Prof’l Basketball,
56 F.3d 866 (8th Cir. 1995) (“NBA”), which held that under the Anti-Injunction
Act, a district court may not enjoin a state proceeding in order to permit
the federal court to pronounce judgment first. BankAmerica I, 263
F.3d at 802-03.
The Eighth Circuit distinguished
both Matsushita and NBA, finding that the competing state court proceeding
had been used to frustrate a federal right. Id. at 803. “The
point of the district court’s injunction is not to prevent the resolution
of federal claims through a settlement in state court. Rather, the
injunction ensures that the resolution of the federal claims proceeds in
a manner that preserves the federal rights created by the PSLRA.” Id.
Finally, the Court of Appeals rejected the Desmond plaintiffs’ reliance
on principles of equity, comity and federalism, and their insistence that
the injunction reflects a distrust of the California courts. Id.
at 803-04. Although the injunction undercut California’s interest
in preventing fraud, the Court of Appeals held that “the significance
of this aspect of the injunction wanes when one considers Congress’s determination,
albeit after the alleged fraud took place, that the state’s interests
must give way to the national policies behind SLUSA.” Id. at 803.
In conclusion, the Court of Appealsemphasized that “the Desmond action was but an end run around the PSLRA.
In short, the district court was convinced that the Desmond litigation
was proceeding in a fashion that was anything but orderly and that would
have subverted the PSLRA by putting small stakeholders in the driver’s
seat.” Id. at 804.
state court class actions were filed after the enactment of the PSLRA,
but before the passage of the Securities Litigation Uniform Standards Act
(“SLUSA”), 15 U.S.C. §§ 77p, 78bb(f) (2000). Congress enacted SLUSA
in 1998 to further effectuate the reforms of the PSLRA:
Through SLUSA, Congress addressed the need for uniform national standards
on securities fraud, while extending the reach of the heightened pleading
requirements of the ... PSLRA.... [SLUSA] decrees several findings
of Congress, including: that the PSLRA was meant to end abuse in
private securities cases; that considerable evidence showed that since
the [PSLRA’s] passage, lawsuit filings had shifted from federal to state
courts, preventing the PSLRA from achieving its intended purposes; and,
that while state regulation is important, preventing state suits from frustrating
the purpose of federal legislation requires a uniform federal standard
of securities fraud.
Seth Aronson and Amy J. Longo, Litigation Under the Securities Litigation
Uniform Standards Act, 1269 PLI/Corp 823, 829 (Sept.-Oct. 2001); Hardy
v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 2001 WL 1524471, at
*2 (S.D.N.Y. Nov. 30, 2001) (“SLUSA was designed to close the loophole
in the PSLRA that allowed plaintiffs suing in state court to avoid the
latter’s heightened pleading requirements”). SLUSA promotes uniformity
in securities class actions by prohibiting state court securities class
actions with more than fifty plaintiffs, 15 U.S.C. §§ 77p(b), 77p(f)(2)(A),
78bb(f)(1); giving authority to the federal courts to stay discovery in
state court securities class actions in aid of their jurisdiction or to
protect or effectuate their judgments, 15 U.S.C. § 77z-1(4); and permitting
removal of state court securities class actions to federal court, 78 U.S.C.
§ 78bb(f)(2). See BankAmerica I, 263 F.3d at 800-01.
district court noted that in Matsushita Elec. Indus. Co. v. Epstein, 516
U.S. 367 (1996), the Supreme Court “held that state courts could settle
exclusively federal claims as part of a class action settlement of state
law claims. Such a settlement would have a preclusive effect on any
pending federal court action.” In re BankAmerica, 95 F. Supp. 2d
at 1049 n.5 (citing Matsushita, 516 U.S. at 374). Thus, settlement
entered into by the Desmond plaintiffs could have extinguished the claims
in the federal case.
3. The ability of plaintiffs’ counsel
to bring suit in state court and avoid the PSLRA has been largely corrected
by SLUSA. See supra n.1.