Mirkin v. Wasserman, No. S020465

• Court: United States State Supreme Court (California)
• Writing for the Court: PANELLI; KENNARD; MOSK
• Citation: 5 Cal.4th 1082,858 P.2d 568,23 Cal.Rptr.2d 101
• Parties: , 858 P.2d 568, 62 USLW 2184, Fed. Sec. L. Rep. P 97,755 Gerald D. MIRKIN, et al., Plaintiffs and Appellants, v. Fred W. WASSERMAN, et al., Defendants and Respondents.
• Decision Date: 09 September 1993
• Docket Number: No. S020465

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23 Cal.Rptr.2d 101 5 Cal.4th 1082, 858 P.2d 568, 62 USLW 2184, Fed. Sec. L. Rep. P 97,755 Gerald D. MIRKIN, et al., Plaintiffs and Appellants,
v.
Fred W. WASSERMAN, et al., Defendants and Respondents. No. S020465. Supreme Court of California. Sept. 9, 1993.

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[5 Cal.4th 1086] [858 P.2d 569] Milberg, Weiss, Bershad, Specthrie & Lerach, William S. Lerach, Eric A. Isaacson, Blake M. Harper, Helen J. Hodges, Leonard B. Simon, San Diego, Barrack, Rodos & Bacine, Edward M. Gergosian, Philadelphia, PA, Thomas M. Wilson, San Diego, Leonard Barrack, Wolf, Haldenstein, Adler, Freeman & Herz, Daniel W. Krasner, Jeffrey G. Smith, Francis M. Gregorek, Wechsler, Skirnick, Harwood, Halebian & Feffer, Stuart D. Wechsler, New York City, Kohn, Savett, Klein & Graf, Savett, Frutkin, Podell & Ryan, Stuart Savett, Dianne Nast, Barbara Podell and Alvin Ivers, Philadelphia, PA, for plaintiffs and appellants.

Daniel E. Lungren, Atty. Gen., Sacramento, Susan E. Henrichsen, Deputy Atty. Gen., San Diego, David B. Gold, Paul F. Bennett, Steven O. Sidener, San Francisco, Jonathan W. Cuneo, Washington, DC, Dan McCorquodale, Sacramento, Greenfield & Chimicles and Brenda M. Nelson, Haverford, PA, as Amici Curiae on behalf of plaintiffs and appellants.

Paul, Hastings, Janofsky & Walker, William B. Campbell, Todd E. Gordinier, Los Angeles, Elizabeth W. Sachs, Bruce D. Ryan, Maryanne B. Haller, Los Angeles, C. Dana Hobart, Marina Del Rey, Ernst & Young, Carl D. Liggio, Richard W. McLaren, Jr., Kathryn A. Oberly, New York City, Nagler & Schneider, Nagler & Rebhuhn, Lawrence H. Nagler, Larry Goldberg, Harry Rebhuhn, Dennis Berkbigler, Beverly Hills, Irell & Manella, Morgan Chu, Marjorie Nieset Neufeld, Gibson, Dunn & Crutcher, Richard P. Levy, Donald J. Schmid, Cooper & Dempsey, Michael D. Dempsey, Stephen C. Johnson and Robert D. Donaldson, Los Angeles, for defendants and respondents.

Peter D. Zeughauser, Newport Beach, Fred Main, Sacramento, Luce, Forward, Hamilton & Scripps, Charles A. Bird, Charles A. Danaher, San Diego, Pettit & Martin, John L. Boos, Dennis P. Scott, Orrick, Herrington & Sutcliffe, W. Reece Bader, Barbara Moses, Robert S. Miller, San Francisco, Kindel & Anderson, Robert K. Baker, Dale S. Fischer, [5 Cal.4th 1087] Louis W. Karlin, Fried, Frank, Harris, Shriver & Jacobson, Molly Munger, Los Angeles, Cooley, Godward, Castro, Huddleson & Tatum, Patrick J. Mahoney, Ray M. Aragon, Gwen C. Mathewson, San Francisco, and Joseph A. Grundfest, Stanford, as Amici Curiae on behalf of defendants and respondents.

PANELLI, Justice.

We granted review to determine whether plaintiffs, who purchased securities at a price allegedly affected by misrepresentations, can plead a cause of action for deceit under Civil Code sections 1709 and 1710 without alleging that they actually relied on the misrepresentations. We hold that plaintiffs may not do so.

I. FACTS

This case, which comes to us after the superior court sustained defendants' demurrer, presents a pure question of law. The material allegations of the complaint, which we assume to be true for the purpose of reviewing such rulings (Garcia v. Superior Court (1990) 50 Cal.3d 728, 732, 268 Cal.Rptr. 779, 789 P.2d 960), can be summarized briefly:

Plaintiffs Gerald Mirkin and Charles Miller purchased shares of the common stock of Maxicare Health Plans, Inc. (Maxicare) between October 17, 1985, and February 29, 1988. Plaintiffs purport to represent all persons who purchased the company's common stock or its 11.75 percent senior subordinated notes during the same period of time. Defendants are Maxicare, which owned and operated health maintenance organizations in 14 states, including California; 12 of Maxicare's officers and directors; Ernst & Whinney (succeeded by respondent Ernst & Young), the accounting firm that audited Maxicare's financial statements; and Salomon Brothers, Inc. and Montgomery Securities, Inc., who together underwrote public offerings of Maxicare

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[858 P.2d 570] securities on November 26, 1985, and September 19, 1986.

Plaintiffs allege that Maxicare, after appearing to experience substantial growth and profits in 1985 and 1986, began to suffer large losses. Maxicare reported losses of $22 million for the fourth quarter of 1986, $255 million for the year 1987, and $21.3 million for the first quarter of 1988. During this period, the value of Maxicare stock gradually dropped from a high of $28.50 per share in 1986 to a low of $1.50 per share in 1988.

Plaintiffs also allege that defendants, beginning in 1985, made numerous misrepresentations about Maxicare's prospects and financial status in prospectuses for the 1985 and 1986 public offerings, in documents filed with [5 Cal.4th 1088] the Securities Exchange Commission, and in other public communications. According to plaintiffs, these misrepresentations inflated the price of Maxicare securities, thus allowing them to sell for more than their true value. Plaintiffs also allege that several of the individual defendants sold Maxicare securities to the public during the same period of time.

Plaintiffs' first consolidated amended complaint purported to state causes of action for deceit and negligent misrepresentation. ¹ (Civ.Code, §§ 1709, 1710.) In attempting to plead actual reliance, which is an element of those torts (Molko v. Holy Spirit Assn. (1988) 46 Cal.3d 1092, 1108, 252 Cal.Rptr. 122, 762 P.2d 46; Garcia v. Superior Court, supra, 50 Cal.3d at p. 737, 268 Cal.Rptr. 779, 789 P.2d 960), plaintiffs alleged in conclusory fashion that they had purchased Maxicare securities "in reliance upon said misrepresentations." Defendants demurred on the ground that the allegation of reliance was insufficient. When plaintiffs conceded they could not plead that they had actually read or heard the alleged misrepresentations, the court sustained the demurrers with leave to amend.

Plaintiffs attempted to cure the defect in an amended complaint by alleging that they had purchased shares "[i]n reliance upon the integrity of the securities market and the securities offering process, and the fidelity, integrity and superior knowledge of defendants...." Once again finding plaintiffs' pleading of reliance deficient, the court sustained defendants' demurrers without leave to amend and dismissed the complaint.

On appeal, plaintiffs argued that the so-called "fraud-on-the-market" doctrine obviates the need to plead and prove actual reliance in cases where material misrepresentations are alleged to have affected the market price of stock. (See generally Basic Inc. v. Levinson (1988) 485 U.S. 224, 241-247, 108 S.Ct. 978, 988-992, 99 L.Ed.2d 194.) The Court of Appeal rejected the argument and affirmed the judgment of the superior court. We granted review.

II. DISCUSSION

It is settled that a plaintiff, to state a cause of action for deceit based on a misrepresentation, must plead that he or she actually relied on the misrepresentation. (E.g., Molko v. Holy Spirit Assn., supra, 46 Cal.3d at p. 1108, 252 Cal.Rptr. 122, 762 P.2d 46; Seeger v. Odell (1941) 18 Cal.2d 409, 414, 115 P.2d 977; Spinks v. Clark (1905) 147 Cal. 439, 444, 82 P. 45.) The law appears [5 Cal.4th 1089] always to have been so in this state. (See, e.g., Colton v. Stanford (1890) 82 Cal. 351, 383, 23 P. 16; Nounnan v. Sutter County Land Co. (1889) 81 Cal. 1, 6-7, 22 P. 515; Estep v. Armstrong (1886) 69 Cal. 536, 538, 11 P. 132; Snow v. Halstead (1851) 1 Cal. 359, 361.)

The question before us is whether plaintiffs, who cannot allege that they actually read or heard the alleged misrepresentations, have pled a cause of action for deceit. ² Rather than relying on defendants'

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[858 P.2d 571] statements about Maxicare and the value of its securities, plaintiffs allege that they "reli[ed] on the integrity of the securities market and the securities offering process, and the fidelity, integrity and superior knowledge of defendants...." To justify their failure to plead actual reliance on the alleged misrepresentations, plaintiffs explain that the price of securities traded in an open and developed market, such as a national stock exchange, adjusts in response to material information, whether such information is true or false. In this way, plaintiffs assert, misrepresentations are reflected in the market price of a security, and someone who relies on the market price as indicating the actual value of a security relies, albeit indirectly, on the misrepresentations.

Based on this reasoning, which is sometimes called the fraud-on-the-market doctrine, the United States Supreme Court has held that "[i]t is not inappropriate to apply a presumption of reliance" in actions brought under rule 10b-5 of the Securities and Exchange Commission (SEC). (Basic Inc. v. Levinson, supra, 485 U.S. at pp. 241-247, 250, 108 S.Ct. at pp. 988-992, 993; see SEC Rule 10b-5, 17 C.F.R. § 240.10b-5 [hereafter Rule 10b-5].)

The characteristics of a private action under Rule 10b-5 are not derived from, or identical to, the common law of deceit. Rule 10b-5 was promulgated by the SEC under a broad, statutory grant of authority to adopt rules to prevent the use of "any manipulative or deceptive device or contrivance" in connection with the purchase or sale of securities. (Securities Exchange Act of 1934, § 10(b), 15 U.S.C. § 78j(b).) This enabling legislation was intended by Congress to be interpreted " 'flexibly to effectuate its remedial purposes.' " (Affiliated Ute Citizens v. United States (1972) 406 U.S. 128, 151, 92 S.Ct. 1456, 1471, 31 L.Ed.2d 741, quoting Supt. of Insurance v. Bankers Life & Cas. Co. (1971) 404 U.S. 6, 12, 92 S.Ct. 165, 169, 30 L.Ed.2d 128.) Under this broad charter, the federal courts "have gone [5 Cal.4th 1090] far beyond the limits of the common law in imposing liability under [Rule] 10b-5...." (Green v. Wolf Corporation (2d Cir.1968) 406 F.2d 291, 303.) As a result, "[a]ctions under Rule 10b-5 are distinct from common-law deceit and...