Falkowski v. Imation Corp.

Decision Date29 October 2002
Docket NumberNo. 01-16113.,01-16113.
Citation309 F.3d 1123
PartiesMark W. FALKOWSKI; Michael Benz; Jean-Luc Chatelain; Phillippe C. Ciampossin; Craig W. Cornelius, Ph. D.; Gregg W. Cretella; John H. Davis; John D. Edwards; Anthony J. Fillicelli; Grady Floyd; Ingemar Gustafson; Arturo Gamboa; Srividya Krishnamachary; Matthew Long; Russell W. Loop, Sr.; Gregory J. Masek; Sanjay Mehta; Douglas A. Merk; Karl E. Minser; Linda J. Moore; Antruong Nguyen; Bang Nguyen; Dennis O'Dell; Gregory L. Orr; Tuan Pham; Eli Rapaich; Jonathan Reis; Brian K. Rice; Eric Rodriguez; Ken H. Rosenfeld; Jeremy Rubin, M.D.; Jan Schieberl; Rick Shroyer; Charles H. Smith; John Hampton Smith; Martha Torres; Dennis Totah; Vu Hao Truong; Sharon Woolsey, on behalf of themselves and all others similarly situated, Plaintiffs-Appellants, v. IMATION CORPORATION, a Delaware corporation; William T. Monahan; Bradley T. Sauer; Jill D. Burchill, Defendants-Appellees.
CourtU.S. Court of Appeals — Ninth Circuit

Neal A. Dublinsky, Lionel Z. Glancy, Glancy & Binkow LLP, Los Angeles, CA, for the appellants.

James K. Langdon II, Andrew Holly, Dorsey & Whitney LLP, Minneapolis, MN, for the appellees.

Appeal from the United States District Court for the Northern District of California; Jeremy Fogel, District Judge, Presiding. D.C. No. CV-99-21072-JF.

Before: HALL, KOZINSKI, and McKEOWN, Circuit Judges.

McKEOWN, Circuit Judge.

The principal question we address here is whether state law fraud claims relating to employee stock options are preempted by the Securities Litigation Uniform Standards Act of 1998 ("SLUSA"), 15 U.S.C. §§ 77p, 78bb(f)(1)-(2). We hold that they are preempted because the alleged fraud took place "in connection with the purchase or sale of a covered security" under SLUSA. This case also involves contract claims based on multiple stock option agreements. Unlike the district court, we conclude that these claims cannot be resolved on a motion to dismiss.

BACKGROUND1

This class action litigation stems from a merger in which Imation Corporation, a publicly traded company, acquired Cemax-Icon, Inc. ("Cemax"), a closely held company in the medical information management business. Plaintiffs-appellants are a group of former Imation employees and contractors (the "Employees") who brought suit for breach of contract and fraud in connection with their employee stock options.

The Employees were initially employed by Cemax. As part of the merger, Cemax stock options, which had been granted to the Employees under three previously-issued stock option plans, were amended to be options on Imation stock. After the merger, Imation also granted the Employees a fourth set of options directly.

Cemax's time as an Imation subsidiary was destined to be short-lived. About a year after completion of the merger, Imation sold Cemax to the Eastman Kodak Company ("Kodak"). In connection with the sale, Imation informed the Employees that they were being transferred en masse to Kodak without any interruption of their employment at Imation's subsidiary, Cemax. They were also advised that they would have thirty days to exercise their options granted under the three Cemax plans that had vested, and that any unvested Cemax options and any new Imation options were deemed forfeited.

Unfortunately, it was not a propitious time to exercise the options that had vested. According to the complaint, Imation was in financial distress before the Cemax/Imation merger and it announced a $200 million earnings write-off just months after the merger. Later that year, Imation became embroiled in trade secret litigation with Kodak.

The Employees claim that, because personnel were key to the value of high-tech Cemax, Imation placed a premium on retaining the Employees through the Cemax-Imation merger and the closing of the sale to Kodak. Imation induced employees to remain with Cemax by misrepresenting the value of Imation stock and options. Specifically, plaintiffs allege that defendants knew, or should have known, about the impending earnings write-off at the time of the Cemax-Imation merger, and that they concealed it from the Employees in order to make the options more attractive. They further allege that defendants fraudulently told them that they would have a long future with Imation, thus misleading them as to the time frame over which they would be able to exercise the options.

The Employees filed suit in California state court against Imation and the chief executives of Imation and Cemax. The state complaint alleged seven contract counts, two counts for fraud (fraudulent inducement and negligent misrepresentation), and one count for violations of the California Labor Code. Imation removed to federal court. The district court held that the fraud claims were completely preempted by SLUSA and thus removal was proper. The remaining claims were dismissed without leave to amend because, in the view of the district court, the contracts on their face foreclosed the breach of contract claims and the stock options were not "wages" under the California Labor Code. The Employees' effort to seek interlocutory appeal was unsuccessful. The Employees then filed an amended complaint with five federal securities fraud claims, which the district court dismissed as time-barred.

ANALYSIS
I. SECURITIES LITIGATION UNIFORM STANDARDS ACT OF 1998

We first consider whether removal was proper under SLUSA, a question intertwined with our analysis of the Employees' fraud claims. Under the well-pleaded complaint rule, a federal preemption defense is ordinarily insufficient to confer federal subject matter jurisdiction. Franchise Tax Bd. v. Constr. Laborers Vacation Trust, 463 U.S. 1, 3-4, 103 S.Ct. 2841, 77 L.Ed.2d 420 (1983). Congress may, however, "so completely pre-empt a particular area that any civil complaint raising this select group of claims is necessarily federal in character." Metro. Life Ins. Co. v. Taylor, 481 U.S. 58, 63-64, 107 S.Ct. 1542, 95 L.Ed.2d 55 (1987). SLUSA provides for just such complete preemption. Patenaude v. Equitable Life Assurance Soc'y, 290 F.3d 1020, 1023-24 (9th Cir. 2002).

SLUSA has been described as "the most recent in a line of federal securities statutes originating with Congress' passage of the Securities Act of 1933 ("1933 Act"), 48 Stat. 74 (1933) (codified as amended at 15 U.S.C. § 77a et seq.), and the Securities Exchange Act of 1934 ("1934 Act"), 48 Stat. 881 (1934) (codified as amended at 15 U.S.C. § 78a et seq.), and continuing through Congress' 1995 passage of the Private Securities Litigation Reform Act of 1995 ("PSLRA"), Pub.L. 104-67, 109 Stat. 737 (1995) (codified in part at 15 U.S.C. §§ 77z-1, 78u)." Riley v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 292 F.3d 1334, 1340 (11th Cir.2002). Under SLUSA, federal court is the exclusive venue for fraud claims "in connection with the purchase or sale of a covered security" and the statute itself specifically provides for removal of such claims to federal court. The statute was originally enacted in 1998 because heightened pleading requirements in federal securities cases caused a pilgrimage of securities claims to state courts, thus circumventing congressional reforms designed to restrict federal securities claims. Id. at 1341; Dudek v. Prudential Sec., Inc., 295 F.3d 875, 877 (8th Cir.2002).

SLUSA provides in pertinent part:

(b) Class action limitations

No covered class action based upon the statutory or common law of any State or subdivision thereof may be maintained in any State or Federal court by any private party alleging —

(1) an untrue statement or omission of a material fact in connection with the purchase or sale of a covered security; or

(2) that the defendant used or employed any manipulative or deceptive device or contrivance in connection with the purchase or sale of a covered security.

(c) Removal of covered class actions

Any covered class action brought in any State court involving a covered security, as set forth in subsection (b), shall be removable to the Federal district court for the district in which the action is pending, and shall be subject to subsection (b).

15 U.S.C. § 77p (1933 Act); see also id. § 78bb(f)(1)-(2) (identical provisions amending 1934 Act).

The parties agree that the state suit was a "covered class action" and that the complaint includes allegations of "an untrue statement or omission of a material fact." The pivotal debate centers on whether the alleged statement or omission was "in connection with the purchase or sale of a covered security."

SLUSA incorporates the definition of "covered security" found in the National Securities Markets Improvement Act of 1996:

(1) Exclusive Federal registration of nationally traded securities

A security is a covered security if such security is —

(A) listed, or authorized for listing, on the New York Stock Exchange or the American Stock Exchange, or listed, or authorized for listing, on the National Market System of the Nasdaq Stock Market (or any successor to such entities);

(B) listed, or authorized for listing, on a national securities exchange (or tier or segment thereof) that has listing standards that the Commission determines by rule (on its own initiative or on the basis of a petition) are substantially similar to the listing standards applicable to securities described in subparagraph (A); or

(C) is a security of the same issuer that is equal in seniority or that is a senior security to a security described in subparagraph (A) or (B).

(2) Exclusive Federal registration of investment companies

A security is a covered security if such security is a security issued by an investment company that is registered, or that has filed a registration statement, under the Investment Company Act of 1940.

15 U.S.C. § 77r(b); see 15 U.S.C. §§ 77p(f)(3), 78bb(f)(5)(E).

Because the stock options themselves are not listed on a...

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