New York Law Journal: Second Circuit Reads Class Action Law Broadly, Allows Federal Review

New York Law Journal
May 15, 2008

A panel of the U.S. Court of Appeals for the Second Circuit split yesterday over the scope of a federal law designed to funnel securities cases to the federal courts.

Deciding a case of first impression, two judges gave an expansive interpretation to the Class Action Fairness Act of 2005. The majority ruled that an action over the failure of a company to disclose it was insolvent should be heard in federal court, even though it was brought under New York state's consumer fraud law and did not involve nationally traded securities.

Judges Dennis Jacobs and Amalya Kearse ruled that plaintiffs seeking to hold the principals of Agway Inc. and its accounting firm liable for issuing money-market certificates while staying mum on the company's financial troubles did not qualify for one of the exceptions to federal jurisdiction in the act. Judge Jacobs wrote for the majority.

Judge Rosemary Pooler dissented in Estate of Barbara Pew v. Cardarelli, 06- 5703-mv, saying the majority 'misconstrues the plain language of the statute ' and was engaged in the 'judicial redrafting' of the law.

The case was brought as a putative class action by people who bought Agway Certificates between September 2000 and September 2002, and sought to hold responsible Agway officers Donald P. Cardarelli and Peter J. O'Neill, as well as the company's auditor, PricewaterhouseCoopers.

They first brought suit in New York Supreme Court in 2003, claiming violations of the federal securities laws. The defendants removed the case to the Northern District, where the plaintiffs amended their complaint to plead deceptive acts or practices under the state consumer fraud statute.

Judge Norman Mordue dismissed the federal securities claim and declined to exercise supplemental jurisdiction over the state claim, dismissing it without prejudice.

The plaintiffs returned to state court in 2005 to plead only the state consumer fraud claim. Again, the action was removed to federal court, where Judge Mordue agreed that he lacked jurisdiction because the suit fell under an exception to the Class Action Fairness Act.

Judge Jacobs explained that one of the act's purposes was 'to provide a federal forum for securities cases that have national impact, without impairing the ability of state courts to decide cases of chiefly local import or cases that concern traditional state regulation of the state's corporate creatures.'

The Class Action Fairness Act (CAFA) accomplished this goal by expanding federal jurisdiction and giving appellate courts the jurisdiction to review orders granting or denying remand to removed cases.

The defendants here petitioned for permission to appeal Judge Mordue's remand order. Over the plaintiffs' objections, the circuit granted the petition.

Under §1453(c), 'a court of appeals MAY accept an appeal from an order of a district court granting or denying a motion to remand.' Judge Jacobs said. 'Here, we elect to entertain defendants' appeal because the question of whether a state-law deceptive practices claim can be predicated on the sale of a security is removable under CAFA is important and consequential, and a decision on the question will alleviate uncertainty in the district courts.'

The circuit also elected to decide the merits of the question.

Exceptions Not Applicable

Judge Jacobs said the certificates did not fit into two of CAFA's exceptions because (1) the certificates were not traded nationally and were not listed on any national exchange, and (2) the plaintiffs' claims did not concern corporate governance.

The only plausible exception to the removal provision here, Judge Jacobs said, was the third one, spelled out in 28 U.S.C. §1332(d)(9)(C), for actions related 'to the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any security.'

Judge Jacobs said the statute was ambiguous, but the court concluded in the end that the third and final exception did not apply.

He said the Securities Litigation Uniform Standards Act, which bars state-law class actions for fraud in connection with securities traded on national exchanges, 'carves out an exception for actions that are based on the law of the state in which the issuer is incorporated or organized and that concern transactions with or communications to persons who already hold the securities of the issuer.'

The Securities Litigation Uniform Standards Act, he said, thereby creates 'concurrent jurisdiction in cases that are likely to have both national and local impact.'

'CAFA's amendments to the diversity statute -- including its exceptions -- proceed along similar lines, granting federal courts jurisdiction over all class actions (with regard to securities and otherwise) over $5 million in the aggregate even if the class members are largely out of state,' Judge Jacobs said. 'Reading the provisions in context, we infer that diversity jurisdiction is created under CAFA for all large, non-local securities class actions, subject to the three exceptions discussed above.'

This conclusion was supported by an examination of the legislative history, he said.

The panel reversed Judge Mordue's order and remanded the case to him for further proceedings.

Judge Pooler in her dissent said it was 'obvious' the securities at issue were covered by the exception in §1332(d)(9)(C).

'The instant suit plainly concerns Agway's failure to fulfill its obligations with respect to the certificates and the plaintiffs' consequent deprivation of their rights with respect to the same,' she wrote. 'If this suit therefore does not solely involve a claim 'that relates to the rights...and obligations relating to or created by or pursuant to' the certificates, I am at a loss to understand why.'

Robert I. Harwood of Harwood Feffer, one of the attorneys who represented the plaintiffs, said he and his colleagues are weighing whether to seek a rehearing en banc.

'Here, CAFA was intended to allow the removal of securities cases of national importance from state court but at the same time, without impacting traditional state regulation of state corporate concern,' Mr. Harwood said. 'This decision achieves exactly the opposite.'

Peter K. Vigeland of WilmerHale argued the defense's case before the circuit. His co-counsel, Philip Anker of WilmerHale declined to comment.

Mark Hamblett can be reached at mhamblett@alm.com.

New York Law Journal

Volume 239