In a pair of orders issued this month, the U.S. Supreme Court signaled plans to provide further guidance in its upcoming Fall term concerning application of the heightened standard for pleading securities fraud claims mandated by the Private Securities Litigation Reform Act of 1995 (“PSLRA”). In the process, the High Court may resolve disagreements among different Circuit Courts of Appeals regarding the requirements for pleading scienter and falsity — two key elements of claims brought under Section 10(b) of the Securities Exchange Act of 1934 and Securities and Exchange Commission (“SEC”) Rule 10b-5.
In early June, the Supreme Court agreed to review a decision of the Ninth Circuit Court of Appeals reviving Section 10(b) claims against Facebook, Inc. (now Meta Platforms, Inc.) (“Facebook”) related to alleged disclosure failures surrounding Cambridge Analytica’s wrongful acquisition and use of Facebook user data. Specifically, the Supreme Court will examine whether risk disclosures are rendered false or misleading when they do not state that a disclosed risk has actually materialized in the past, even if that past event presents no known risk of ongoing or future business harm.1
A mere two weeks later, the Supreme Court decided to review a different Ninth Circuit decision involving a Section 10(b) claim against another technology company — this time, NVIDIA Corp. (“NVIDIA”). The NVIDIA appeal focuses on two questions: (1) whether plaintiffs seeking to allege scienter (basically, an intent to deceive) based on internal company documents must plead the content of those documents with particularity; and (2) whether a plaintiff can adequately plead falsity by relying on an expert opinion instead of particularized factual allegations.2
The Facebook Appeal
In Facebook v. Amalgamated Bank, the plaintiffs alleged that Facebook and key executives committed fraud when Facebook stated in its Form 10-K filings that the misuse of personal user data by third parties posed a hypothetical risk that could negatively affect the company. Plaintiffs contended that at the time the statements were made, the misuse of data by Cambridge Analytica had already occurred, and so was not a hypothetical risk scenario.
Facebook asserted in its petition to the Supreme Court that the Circuit Courts of Appeals are divided on the question of whether a public company’s disclosure of risks facing its business is false or misleading when the disclosure fails to alert investors that those risks have materialized in the past. The Ninth Circuit ruled that Facebook’s statement of risk factors could support a securities claim because Facebook failed to disclose the Cambridge Analytica matter — even though there was no allegation that the matter presented a known risk to Facebook’s business at the time of disclosure.3 According to Facebook, this ruling diverged from the approach adopted by the First, Second, Third, Fifth, Tenth, and D.C. Circuits that a company must disclose that a risk has materialized only if the company knows that event will actually harm its business.4 The Sixth Circuit has gone further still, holding that companies need not disclose past events because risk disclosures in SEC filings “are inherently prospective in nature.”5
The NVIDIA Appeal
In E. Ohman J:or Fonder AB v. NVIDIA Corp., the plaintiffs alleged NVIDIA and its CEO had misled investors by minimizing the extent to which the company’s reported gaming revenue growth was driven by the sale of NVIDIA’s graphics processing units to cryptocurrency companies — a market segment where demand was allegedly “notoriously volatile.”6 The Supreme Court agreed to review two aspects of the Ninth Circuit’s ruling: (a) whether plaintiffs adequately pleaded scienter based on executives’ access to company reports, without pleading with particularity the contents of those reports; and (b) whether plaintiffs can use expert testimony as their sole basis to allege falsity.
Scienter
Of the two issues on appeal, the High Court’s disposition of the scienter question is likely to have the most far-reaching implications. Under the PSLRA, plaintiffs alleging Section 10(b) violations must plead particularized facts that support a “cogent and compelling” inference that a defendant acted with scienter — that is, “a mental state embracing intent to deceive, manipulate, or defraud.”7 The Ninth Circuit held that the NVIDIA plaintiffs adequately pleaded scienter based on allegations from former NVIDIA employees that the company’s CEO had reviewed internal company sales and finance documents that might have shown the complained-of statements were false. NVIDIA contends that by failing to require plaintiffs to plead the specific contents of those internal documents, the Ninth Circuit’s ruling deepened a growing circuit split over the scienter pleading standard. As outlined in NVIDIA’s petition to the Supreme Court, the approach adopted by the Second, Third, Fifth, Seventh, and Tenth Circuit Courts of Appeals holds that when plaintiffs allege scienter based on internal company reports, they must allege the contents of those reports with particularity.8 The First and Ninth Circuits, however, have allowed plaintiffs to proceed based on allegations about what such internal reports might say.9
Falsity
According to NVIDIA, the Ninth Circuit also split with the other circuits when it held that plaintiffs’ complaint adequately pleaded falsity based on an expert opinion rather than particularized factual allegations. Plaintiffs did not allege specific facts, from company documents or otherwise, to show that NVIDIA had misrepresented the import of the cryptocurrency industry to its business. Instead, the NVIDIA plaintiffs relied on an expert who estimated (i) the total amount of worldwide processing power added to major blockchain networks during the class period; and (ii) the percentage of graphics processing units contributing to that processing power that would have been manufactured by NVIDIA, and opined that NVIDIA’s actual cryptocurrency-dependent revenue exceeded what it had disclosed. As NVIDIA maintained in its petition to the High Court that the Second and Fifth Circuits have held “plaintiffs may use nonconclusory expert opinion to ‘bolster’ allegations of falsity, but that such opinion ‘cannot substitute for facts under the PSLRA’”—whereas the Ninth Circuit’s ruling allowed expert opinion in lieu of specific factual allegations.10
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The Court’s disposition of this pair of appeals will be important in aligning standards concerning interpretation and application of the PSLRA pleading rules in courts across the country. These rules were enacted as an effort to reign in meritless securities lawsuits that imposed substantial litigation costs and other burdens on public companies. Almost 30 years after the PSLRA’s enactment, the Facebook and NVIDIA cases highlight the uneven application of the PSLRA standards that still creates uncertainty for public companies and their leaders, and is bringing an increasing number of securities cases to perceived plaintiff-friendly forums — with the Ninth Circuit having the greatest number of new securities filings of any Circuit in 2023.11 The fact that the Supreme Court has, twice in one month, granted certiorari on cases involving the Ninth Circuit’s application of the PSLRA pleading standard suggests an intent to bring greater consistency to resolving at least some aspects of these cases, and could signal concern that that appellate court is somewhat out of step with the Supreme Court’s historically rigorous application of the PSLRA pleading standards.
1Petition for Writ of Certiorari, Facebook, Inc. v. Amalgamated Bank, No. 23-980 (U.S. Mar. 4, 2024), https://www.supremecourt.gov/DocketPDF/23/23-980/302143/20240304124120337_Meta%20Petition%20for%20Certiorari.pdf.
2Petition for Writ of Certiorari, NVIDIA Corp. v. E. Ohman J:or Fonder AB, No. 23-970 (U.S. Mar. 4, 2024), https://www.supremecourt.gov/DocketPDF/23/23-970/302146/20240304124922302_NVIDIA%20Cert%20Petition.pdf.
3In re Facebook, Inc. Sec. Litig., 87 F.4th 934, 949–50 (9th Cir. 2023) (amended opinion affirming in part, reversing in part, and denying rehearing).
4Karth v. Keryx Biopharmaceuticals, Inc., 6 F.4th 123, 137(1st Cir. 2021); Williams v. Globus Med., Inc., 869 F.3d 235, 241–42 (3d Cir. 2017); Ind. Pub. Ret. Sys. v. Pluralsight, Inc., 45 F.4th 1236, 1255 (10th Cir. 2022); Set Cap. LLC v. Credit Suisse Grp. AG, 996 F.3d 64, 85–86 (2d Cir. 2021); Lormand v. US Unwired, Inc., 565 F.3d 228, 249–50 (5th Cir. 2009); In re Harman Int’l Indus., Inc. Sec. Litig., 791 F.3d 90, 104, 108 (D.C. Cir. 2015).
5Bondali v. Yum! Brands, Inc., 620 F. App’x 483, 491 (6th Cir. 2015).
681 F.4th 918, 923 (9th Cir. 2023).
7Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 319 (2007) (quoting Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193-94, n. 12 (1976)).
8In re Scholastic Corp. Sec. Litig., 252 F.3d 63, 72-73 (2d Cir. 2001); California Pub. Emps.’ Ret. Sys. v. Chubb Corp., 394 F.3d 126, 147–48 (3d Cir. 2004); Abrams v. Baker Hughes Inc., 292 F.3d 424, 432 (5th Cir. 2002); Arazie v. Mullane, 2 F.3d 1456, 1467 (7th Cir. 1993); Anderson v. Spirit Aerosystems Holdings, Inc., 827 F.3d 1229, 1241 (10th Cir. 2016).
9See In re Stone & Webster, Inc., Sec. Litig., 414 F.3d 187, 210–211 (1st Cir. 2005).
10Fin. Acquisition Partners LP v. Blackwell, 440 F.3d 278, 286 (5th Cir. 2006); Arkansas Pub. Emps.’ Ret. Sys. v. Bristol-Myers Squibb Co., 28 F.4th 343, 354 (2d Cir. 2022) (quoting Blackwell, 440 F.3d at 286).
11“Securities Class Action Filings: 2023 Year in Review,” Cornerstone Research (2024), https://www.cornerstone.com/wp-content/uploads/2024/01/Securities-Class-Action-Filings-2023-Year-in-Review.pdf.
