Saturday, January 14, 2017
A couple of months ago, investors in Theranos filed a class action complaint seeking damages for fraud and negligent misrepresentation under California law. Theranos is based in California; presumably, the plaintiffs intend to argue that any false statements emanated from California and therefore California law covers even out of state purchases. See Diamond Multimedia Systems, Inc. v. Superior Court, 19 Cal. 4th 1036 (Cal. 1999).
The reason this interests me is because it’s rare – not unheard of, of course, but rare – to see fraud-based securities class actions concerning securities that are not publicly traded. SLUSA eliminated the possibility for most companies, but SLUSA alone isn’t the problem; the other hurdle is the difficulty of establishing reliance on a classwide basis, as even before SLUSA, fraud-on-the-market doctrine was largely limited to Section 10(b) claims.
California law, however, is different from most states’, because California’s blue sky law explicitly permits claims for deceit based on price distortion. See Mirkin v. Wasserman, 5 Cal. 4th 1082 (Cal. 1993); Cal. Corp. Code, §§ 25400, 25500.
It will be interesting to see if that’s how the Theranos class plans to approach matters; the difficulty will be establishing that, for example, Investor A’s willingness to purchase stock on such-and-such terms had the effect of distorting the price for other investors, outside the context of an efficient market.
The complaint also alleges certain causes of action, like statutory and common law fraud, that do require actual reliance and do not permit a price-distortion substitute. But investors are also in luck for that, as well; there is a fair amount of precedent for the principle that when similar misrepresentations are made to purchasers, and those misrepresentations are important to the transaction, the mere fact that the purchaser chose to engage in the transaction creates a presumption of reliance. That is, certain kinds of misrepresentations are so fundamental to a purchase that it is difficult to imagine anyone would have engaged in the transaction if they were not relying upon them. Courts in the Ninth Circuit have repeatedly embraced this principle. See, e.g., In re First Alliance Mortg. Co., 471 F.3d 977 (9th Cir. 2006); Poulos v. Caesars World, Inc., 379 F.3d 654 (9th Cir. 2004).
In Theranos’s case, different investors may have heard different statements at different times – the class period stretches for over 3 years – which puts a crimp in the plaintiffs’ case, but presumably all of the statements basically were about the efficacy of Theranos’s product. And since this was a one-product company, it’s not a stretch to assume that all investors expected that the product, you know, actually worked.
Of course, this is just the complaint; it’s possible that Theranos will be able to introduce doubt into the mix by, among other things, presenting evidence of disclaimers/warnings/etc that raise questions about whether each investor relied on the same information.
But that’s the class cert issue; I’ll be interested to see the kinds of arguments defendants raise in their motion to dismiss, due next week.