Cross-posted at Forbes.com’s “On the Docket”
Two elite plaintiffs’ law firms learned recently that in securities fraud class action litigation, the cost of failing to quit while you are behind can be very high.
In a September 20 opinion in In re Star Gas Litigation, federal Judge Janet Bond Arterton deployed a little-used section of the Private Securities Litigation Reform Act (PSLRA) and imposed mandatory sanctions under Rule 11 of the Federal Rules of Civil Procedure. Congress intended to reduce frivolous private securities litigation through the PSLRA and Section 78u-4 requires the judiciary, which has long been hesitant to impose sanctions, to “include in the record specific findings regarding compliance by each party and each attorney . . . with Rule 11(b).” It also states that the court “shall impose sanctions on such party or attorney in accordance with Rule 11″ if the judge finds a Rule 11 violation.
The plaintiffs alleged that Star Gas made false and misleading statements about improvements to the company’s heating-oil subsidiary, including creating of a customer call center. Judge Arterton dismissed the class action in August 2006, plaintiffs tried to amend their complaint, at which time Star Gas moved for a Rule 11 inquiry. According to an American Lawyer article, the defendant’s lawyer offered to drop the Rule 11 motion if the plaintiffs ended their efforts to amend their complaint. The plaintiffs refused, Judge Arterton denied both the plaintiffs’ motion to amend and the defendant’s Rule 11 motion, and the plaintiffs appealed her dismissal to the U.S. Court of Appeals for the Second Circuit. The Second Circuit affirmed, and then Star Gas renewed its request for Rule 11 sanctions.
Judge Arterton’s opinion lays out her thorough assessment of whether plaintiffs’ claims were not “warranted by existing law” or that “no competent attorney could form a reasonable belief that the pleading is well grounded in fact.” The judge cites often to her 2006 opinion dismissing the plaintiffs’ complaint, which explained how the timing for Star Gas’s alleged misstatements did not line up factually with information in the public record, such as Star Gas’s securities filings. Such “timing impossibilities,” the judge wrote, left plaintiffs’ claims “utterly lacking in support,” language which she repeated throughout the opinion. Judge Arterton found, as required under Rule 11, that plaintiffs’ violations were “substantial,” thus creating “a presumption for awarding all fees and costs for the entire litigation as sanctions.” The two law firms will have an opportunity to convince the judge that the full sanction will impose an “unreasonable burden” on them.
One passage in the In re Star Gas ruling strongly reveals Judge Arterton’s frustration with the plaintiffs’ lawyers and their actions in the case:
Additionally, Plaintiffs were put on notice of the defects in their allegations from the pre-filing conference, in which Defendants were required to summarize all bases for their forthcoming motion to dismiss to afford Plaintiffs a chance to amend, which Plaintiffs declined. Plaintiffs did not seek leave to file an amended complaint to address those defects until after the Court dismissed all of their claims.
Hopefully, Judge Arterton’s ruling will encourage more targets of securities class action strike suits to invoke PSLRA §78u-4 and will diminish federal judges’ long-standing reluctance to impose Rule 11 in cases like In re Star Gas, where such sanctions are entirely warranted.