Is “Loss Causation” a Lost Cause for Corporate Shareholders?: The Ninth Circuit Gives Plaintiffs Another Reason to Pause Before Filing Securities Fraud Claims

Dec 22, 2017 | Posted by Parada K. Ornelas | Topics: Class Actions, Business Litigation

The U.S. Court of Appeals for the Ninth Circuit recently affirmed the dismissal of a class action securities fraud complaint against Yelp, in Curry v. Yelp Inc., in which investors claim that they were misled about the authenticity of business online reviews. 

Loos v. Immersion Corp.

Under Section 10(b) of the Securities Exchange Act of 1934, a securities fraud plaintiff must allege a material misrepresentation or omission, scienter (i.e., a wrongful state of mind), a connection with the purchase or sale of a security, reliance, economic loss, and loss causation.  In Loos v. Immersion Corp., 762 F.3d 880 (9th Cir. 2014)—a precursor to Curry—plaintiffs brought shareholder class actions against Immersion Corporation (“Immersion”) for securities fraud in the United States District Court for the Northern District of California.  Prior to the suit, Immersion experienced a financial loss that led to an internal investigation into its previously reported revenues.  Plaintiff shareholders claim that Immersion violated Section 10(b) by making false and misleading statements about its financial conditions.  More specifically, plaintiffs allege that they suffered financial losses after the stock prices fell, as a result of Immersion’s announcement of the investigation. 

Immersion moved to dismiss the complaint for failure to state a claim, which the district court granted with leave to amend.  On Immersion’s second motion to dismiss, the court found that plaintiffs failed to adequately plead the loss causation element of their claims and dismissed the amended complaint with prejudice.  Loss causation requires the plaintiff to prove that the defendant’s misrepresentation was a “substantial cause” of the plaintiff’s economic harm.  Although at the pleading stage the plaintiff need only to plausibly allege that the defendant’s fraud was “revealed to the market and caused the resulting losses.” 

The Ninth Circuit came to the same conclusion as the district court in that the announcement of an investigation, without additional facts, is insufficient to prove loss causation.  The panel held that any decline in a corporation’s share price following the announcement of an investigation cannot form a viable basis for loss causation, as the decrease in value is purely market speculation as to whether fraud has occurred.  In other words, Immersion’s disappointing earnings were indicative of poor financial health, but did not show that the company had “cooked” its books.     

Curry v. Yelp, Inc.

Three years after Loos, the Ninth Circuit considered another securities fraud appeal from the Northern District of California and similarly found that consumer complaints, without more, were insufficient to establish a viable loss causation theory.  In Curry, plaintiff investors filed a class action complaint, alleging that Yelp made materially false statements regarding the independence and authenticity of business reviews, and its executives knew that those statements were false.  Plaintiffs claimed that Yelp’s stock dropped after a Wall Street Journal (“WSJ”) article published a disclosure from the Federal Trade Commission (“FTC”) of more than 2,000 complaints from business owners claiming that Yelp manipulated, removed or suppressed certain online reviews.   

On Yelp’s motion to dismiss the initial complaint, the district court concluded that plaintiffs did not sufficiently allege loss causation, among other elements, and dismissed the action with leave to amend. Plaintiffs then filed their first amended complaint, and the district court again granted Yelp’s second motion to dismiss.  The district court found that the WSJ article and FTC disclosure did not affect Yelp’s stock value because the article was published after the stock prices had already declined. Notably, the court concluded that plaintiffs did not allege that there was actual fraud—only that there was potential fraud.  The district court subsequently denied plaintiffs’ motion for reconsideration.

The Ninth Circuit affirmed the district court’s decision in finding that plaintiffs failed to show a viable basis for the loss causation theory and scienter. The panel held that plaintiffs’ reliance upon the FTC complaints alone to support their allegations did not constitute fraud, and ultimately found that plaintiffs did not prove loss causation. The panel also concluded that suspicious sales of stock by Yelp’s executives without allegations of historical trading data did not support a strong inference of scienter. 

The Ninth Circuit’s Loos and Curry opinions signal to plaintiffs that they must show actual fraud on the market, not mere speculation or potential of fraud, to sustain a claim under Section 10(b). In a securities fraud claim, simply because there is smoke, it does not mean that there is a fire.