In re Initial Public Offering Securities Lit.

• Decision Date: 05 December 2006
• Docket Number: Docket No. 05-3349-cv.
• Citation: In re Initial Public Offering Securities Lit., 471 F.3d 24 (2nd Cir. 2006)
• Parties: In re INITIAL PUBLIC OFFERING SECURITIES LITIGATION. John G. Miles, Saswata Basu, Michael Huff, Sean Rooney, Krikor Kasbarian, Stathis Pappas, James Collins, Diane Collins, Joseph Zhen, Zitto Investments, J. Chris Rowe, Vasanthakumar Gangaiah, Frederick Henderson, Barry Lemberg, Anita Budich, Spiros Gianos, Mary Jane Gianos, and Harald Zagoda, Plaintiffs-Appellees, v. Merrill Lynch & Co., Inc., Goldman, Sachs & Co., Merrill Lynch, Pierce, Fenner & Smith Inc., Credit Suisse First Boston LLC, Robertson Stephens, Inc., Morgan Stanley & Co., Inc., Bear Stearns & Co., Inc., The Bear Stearns Companies, Inc., J.P. Morgan Securities Inc., Deutsche Bank Securities, Inc. (f/k/a Deutsche Banc Alex. Brown, Inc., DB Alex. Brown LLC, and BT Alex. Brown Inc.), Lehman Brothers, Inc., SG Cowen Securities, Corp. (n/k/a SG Cowen & Co., LLC), RBC Dain Rauscher, Inc. (f/k/a Dain Rauscher, Inc.) and Prudential Securities, Inc., Defendants-Appellants.
• Court: U.S. Court of Appeals — Second Circuit

Page 24

471 F.3d 24

In re INITIAL PUBLIC OFFERING SECURITIES LITIGATION John G. Miles, Saswata Basu, Michael Huff, Sean Rooney, Krikor Kasbarian, Stathis Pappas, James Collins, Diane Collins, Joseph Zhen, Zitto Investments, J. Chris Rowe, Vasanthakumar Gangaiah, Frederick Henderson, Barry Lemberg, Anita Budich, Spiros Gianos, Mary Jane Gianos, and Harald Zagoda, Plaintiffs-Appellees, v.Merrill Lynch & Co., Inc., Goldman, Sachs & Co., Merrill Lynch, Pierce, Fenner & Smith Inc., Credit Suisse First Boston LLC, Robertson Stephens, Inc., Morgan Stanley & Co., Inc., Bear Stearns & Co., Inc., The Bear Stearns Companies, Inc., J.P. Morgan Securities Inc., Deutsche Bank Securities, Inc. (f/k/a Deutsche Banc Alex. Brown, Inc., DB Alex. Brown LLC, and BT Alex. Brown Inc.), Lehman Brothers, Inc., SG Cowen Securities, Corp. (n/k/a SG Cowen & Co., LLC), RBC Dain Rauscher, Inc. (f/k/a Dain Rauscher, Inc.) and Prudential Securities, Inc., Defendants-Appellants.

Docket No. 05-3349-cv.

United States Court of Appeals, Second Circuit.

Argued: June 6, 2006.

Decided: December 5, 2006.

Gandolfo V. DiBlasi, New York, N.Y. (John L. Hardiman, Penny Shane, David M.J. Rein, Richard J.L. Lomuscio, Taleah E. Jennings, Sullivan & Cromwell LLP, New York, N.Y., on the brief), for Defendant-AppellantGoldman, Sachs & Co.

Andrew B. Clubok, Richard A. Cordray, Brant W. Bishop, Kirkland & Ellis LLP, Wash., D.C., on the brief, for Defendant-AppellantMorgan Stanley & Co. Inc.

Randy Mastro, Robert Serio, Mark Holton, Gibson, Dunn & Crutcher LLP, New York, N.Y., on the brief, for Defendants-AppellantsBear, Stearns & Co. and The Bear Stearns Companies, Inc.

Robert B. McCaw, Louis R. Cohen, Fraser L. Hunter, Jr., Mark M. Oh, David S. Lesser, Wilmer Cutler Pickering Hale and Dorr LLP, New York, N.Y., on the brief, for Defendant-AppellantCredit Suisse First Boston LLC.

Andrew J. Frackman, Brendan J. Dowd, Matthew J. Merrick, O'Melveny & Myers LLP, New York, N.Y., on the brief, for Defendant-AppellantRobertson Stephens, Inc.

Barry R. Ostrager, David W. Ichel, Joseph M. McLaughlin, Simpson Thacher & Bartlett LLP, on the brief, for Defendant-AppellantJ.P. Morgan Securities Inc.Stephen M. Shapiro, Timothy S. Bishop, Joshua D. Yount, Mayer, Brown, Rowe & Maw LLP, Chicago, Il., on the brief, Mark Holland, Robert G. Houck, Clifford Chance U.S. LLP, New York, N.Y., on the brief, for Defendants-AppellantsMerrill Lynch & Co., Inc. and Merrill Lynch, Pierce, Fenner & Smith Inc.

Moses Silverman, Philip Barber, Paul, Weiss, Rifkind, Wharton & Garrison LLP, New York, on the brief, for Defendant-AppellantLehman Brothers Inc.

A. Robert Pietrzak, Joel M. Mitnick, María D. Meléndez, Sidley Austin Brown & Wood LLP, New York, N.Y., on the brief, for Defendant-AppellantDeutsche Bank Securities Inc.(f/k/a Deutsche Banc Alex.Brown Inc., DB Alex.Brown LLCand BT Alex.Brown Inc.).

Jay B. Kasner, Scott D. Musoff, Skadden, Arps, Slate, Meagher & Flom LLP, New York, N.Y., on the brief, for Defendant-AppellantSG Cowen Securities Corp.(n/k/a SG Cowen & Co., LLC).

Stewart D. Aaron, Arnold & Porter LLP, New York, N.Y., on the brief, for Defendant-AppellantRBC Dain Rauscher, Inc.(f/k/a Dain Rauscher, Inc.).

Stephen L. Ratner, Sarah S. Gold, Proskauer Rose LLP, New York, N.Y., on the brief, for Defendant-AppellantPrudential Securities Inc.

Robert A. Wallner, New York, N.Y. (Melvyn I. Weiss, David A.P. Brower, Ariana J. Tadler, Peter G. Safirstein, Christian P. Siebott, Ann M. Lipton, Milberg Weiss Bershad & Schulman LLP, New York, N.Y.; Stanley D. Bernstein, Robert J. Berg, Rebecca M. Katz, Felecia L. Stern, Danielle Mazzini-Daly, Bernstein Liebhard & Lifshitz, LLP, New York, N.Y.; Richard S. Schiffrin, David Kessler, Schiffrin & Barroway, LLP, Radnor, Penn.; Daniel W. Krasner, Fred Taylor Isquith, Thomas H. Burt, Wolf Haldenstein Adler Freeman & Herz LLP, New York, N.Y.; Jules Brody, Aaron Brody, Stull Stull & Brody, New York, N.Y.; Howard Sirota, Rachell Sirota, Saul Roffe, Sirota & Sirota LLP, New York, N.Y., on the brief), for Plaintiffs-Appellees.

Robin S. Conrad, Nat'l Chamber Litigation Center, Wash. D.C.; Gary A. Orseck, Roy T. Englert, Jr., Alan E. Untereiner, Robbins, Russell, Englert, Orseck & Untereiner, Wash., D.C., for amicus curiae Chamber of Commerce of the United States of America in support of Defendants-Appellants.

Bernard Sorkin, Scarsdale, N.Y.; Theodore M. Shaw, Jacqueline A. Berrien, Norman J. Chachkin, Robert H. Stroup, NAACP Legal Defense and Educational Fund, Inc., New York, N.Y. for amicus curiaeNAACP Legal Defense and Educational Fund, Inc. in support of Plaintiffs-Appellees.

Before NEWMAN, SOTOMAYOR, and HALL, Circuit Judges.

JON O. NEWMAN, Circuit Judge.

This appeal primarily concerns the issue, surprisingly unsettled in this Circuit, as to what standards govern a district judge in adjudicating a motion for class certification under Rule 23 of the Federal Rules of Civil Procedure.Comprehended within this broad issue are subsidiary issues such as whether a definitive ruling must be made that each Rule 23 requirement has been met or whether only some showing of a requirement suffices, whether all of the evidence at the class certification stage is to be assessed or whether a class plaintiff's evidence, if not fatally flawed, suffices, and whether the standards for determination of a Rule 23 requirement are lessened when a Rule 23 requirement overlaps with an aspect of the merits of the proposed class action.Finally, the appeal presents the question whether granting a motion for class certification in the pending litigation exceeded the District Court's discretion.

These issues arise on an appeal by Defendants-AppellantsMerrill Lynch & Co. and others ("the underwriters") from the October 13, 2004, order of the District Court for the Southern District of New York(Shira A. Scheindlin, District Judge) granting in part Plaintiffs-Appellees' motion for class certification in six securities fraud class actions.The six actions were selected by the District Court as "focus cases" out of 310 consolidated class actions, which themselves were consolidations of thousands of separate class actions.All of the lawsuits, including the six at issue on this appeal, involve claims of fraud on the part of several of the nation's largest underwriters in connection with a series of initial public offerings ("IPOs").

We conclude (1) that a district judge may not certify a class without making a ruling that each Rule 23 requirement is met and that a lesser standard such as "some showing" for satisfying each requirement will not suffice, (2) that all of the evidence must be assessed as with any other threshold issue, (3) that the fact that a Rule 23 requirement might overlap with an issue on the merits does not avoid the court's obligation to make a ruling as to whether the requirement is met, although such a circumstance might appropriately limit the scope of the court's inquiry at the class certification stage, and (4) that the cases pending on this appeal may not be certified as class actions.We therefore vacate the class certifications and remand for further proceedings.

Background

Throughout 2001, thousands of investors filed class actions against 55 underwriters, 310 issuers, and hundreds of individual officers of the issuing companies, alleging that the Defendants had engaged in a scheme to defraud the investing public in violation of federal securities laws.The Assignment Committee of the Southern District of New York transferred all these suits to Judge Scheindlin for pretrial coordination.Judge Scheindlin consolidated the thousands of cases by issuer, resulting in 310 consolidated actions.

The complaints, as amended, consist of a set of "Master Allegations" applicable to all 310 consolidated actions and a "Class Action Complaint" specific to each of the 310 issuers.The Master Allegations describe three fraudulent devices used by the underwriters.First, they allege that the underwriters conditioned allocations of shares at the offer price on agreements to purchase shares in the aftermarket (the "Tie-in Agreements").Second, they allege that the underwriters also required customers who received allocations of shares at the offer price to pay three forms of "Undisclosed Compensation" to the underwriters: (1) paying inflated brokerage commissions, (2) paying commissions on churned transactions in unrelated securities, and (3) purchasing other unwanted securities from the underwriters.Third, the Plaintiffs allege that the underwriters used their analysts in several improper ways: (1) setting unrealistic price targets, (2) promising a "hot" analyst to an issuer in exchange for underwriting the IPO, (3) tying analyst compensation to performance of the investment banking division, (4) allowing analysts to own shares of stocks they were touting, and (5) failing to disclose these conflicts of interest.The Master Allegations also allege that the underwriters facilitated receipt of quick profits by insiders of the issuer and that the issuers (also Defendants)"participated in and benefitted from" the underwriters' misconduct.

The Master Allegations detail the specific activities of each underwriter.These allegations include reports of the tie-in arrangements, undisclosed compensation, and analyst manipulation.

The issuers in the six focus cases involved in the pending appeal are Corvis Corp., Engage Technologies, Inc., FirePond, Inc., iXL Enterprises, Inc., Sycamore Networks, Inc., and VA Software Corp.All six complaints include the following six claims:

* claims under section 11 of the Securities Act,15 U.S.C. § 77k, against the issuer, individual officers, and underwriters for untrue material statements of fact or material omissions from the registration statement, specifically the tie-in agreements and the undisclosed compensation;

* claims under section 15 of the Securities Act,15 U.S.C. § 77o, against...