In a case of first impression, the California Supreme Court in Diamond Multimedia Systems, Inc. v. Superior Court of Santa Clara County upheld the viability of a class action brought under California securities laws by out-of-state purchasers of securities whose price allegedly was affected by market manipulation occurring within California, even though the securities transactions occurred outside the state. The court in dicta also opined that its holding was consistent with, and supported by, the Securities Litigation Uniform Standards Act of 1998 (the "Uniform Standards Act"), even though the dispute before it predated enactment, and thus was not governed by, that Act. By limiting application of the Uniform Standards Act to state law class actions involving 50 or more persons, the court reasoned, "Congress has confirmed the independent force of state securities laws."
Diamond Multimedia
In Diamond Multimedia, plaintiffs brought a class action on behalf of California and all U.S. residents pursuant to Sections 25400 and 25500 of California's Corporate Securities Laws of 1968, which together provide a private civil remedy to recover for the unlawful acts of sellers of securities who make false or misleading statements to induce the purchase or sale of such securities by others. The plaintiffs alleged that the defendants, with knowledge of adverse non-public information, had manipulated the market by approving false statements and thus had enriched themselves at plaintiffs' expense by taking advantage of the resulting artificially inflated price of Diamond Multimedia stock.
After the trial court denied the defendants' demurrer to dismiss the case, defendants petitioned for writ of mandamus to the state's highest court to determine whether Sections 25400 and 25500 of the state's securities law permitted claims by out-of-state stock purchasers and sellers against an in-state issuer for transactions that occurred outside of California. Specifically, defendants asserted that the language of the relevant statutory provisions limits claims brought pursuant thereto to intrastate securities transactions. The defendants asserted that without such limitation, the state securities laws would permit more expansive remedies than are currently available under federal securities laws.
The California Supreme Court granted review of the petition because of the growing importance of the interplay between federal and state securities laws. Indeed, the court acknowledged that "recent procedural changes applicable to the federal securities laws [i.e., the Private Securities Litigation Reform Act of 1995 ("PSLRA")] have resulted in the filing of an increased number of nationwide class action lawsuits on behalf of corporate shareholders in California courts under California law." The court further noted that two factors specific to California - the absence of a reliance requirement and the availability of jurisdiction over many high technology firms - made California a particularly attractive venue for plaintiffs, including out-of-state purchasers. Thus, the court agreed that "as a result of the PSLRA, the reach of California Corporate Securities Law is increasingly important to shareholders, corporations, and the judicial system."
Policy Arguments Irrelevant
Despite acknowledging the growing import of federal securities laws on state actions, the court stated that defendants' policy-based arguments concerning the reach of California law should be addressed to Congress and/or the Legislature, not the court. According to the court, its role "is only to construe and apply" the language of disputed sections of the state securities laws "so as to carry out the legislative intent that underlies [them]." Thus, the court proceeded to construe the relevant statutory provisions, and held that they provide a remedy to out-of-state purchasers and sellers of securities whose price is affected by market manipulation occurring within California, even if the purchases and sales occurred outside of California.
In dicta, however, the court conceded that the Uniform Standards Act might accomplish the result that the defendants were urging, because the federal law prohibits class actions involving disclosure claims based on state statutory law. The court further stated, however, that:
[f]ar from restricting market manipulation actions to those brought under federal securities law, Congress has chosen both to permit continuance of pending class actions based on misrepresentation or omissions of material fact and use of manipulative or deceptive devices in connection with the purchase or sale of securities and to leave individual actions unrestricted.
Moreover, in rebutting the dissent's assertion that federal securities laws impliedly preempt California's securities laws, the Diamond Multimedia court stated:
[E]xcept to the extent that the [Uniform Standards Act] limits class actions, there is no preemption. Shareholders' rights under state and federal law are cumulative. By enacting only a class action limitation, when it could have barred all actions based on state law to recover losses caused by market manipulation, Congress has confirmed the independent force of state securities law. Had Congress believed that its goals could not be accomplished if suits based on state law were permitted or that any conflict existed, all actions based on state law, not simply class actions, would have been banned.
Preemption Limited
Thus, because Congress did not preempt all actions to recover losses for market manipulation under state securities laws, only class actions, the court determined that state securities laws do not conflict with federal laws.
As the court noted, the Uniform Standards Act had no impact on its determination. However, in both construing the California securities laws broadly and noting the lack of federal preemption for individual claims, the California Supreme Court ostensibly has invited prospective plaintiffs, both in state and out, to use its courts to recover losses due to illegal market manipulation, even if the stock transactions occurred outside of California.
Interestingly, the California Supreme Court's decision comes just four months after a California Superior Court in Schade v. Hambrect & Quist Group granted with little analysis defendants' demurrer on the basis that, inter alia, the National Securities Markets Improvement Act of 1996 preempts securities claims concerning initial public offerings brought pursuant to state unfair competition laws.
Diamond Multimedia Systems, Inc. v. Superior Court of Santa Clara County, 19 Cal.4th 1036, 80 Cal.Rptr.2d 828, 968 P.2d 539 (1999); Schade v. Hambrect & Quist Group, No. 78749 (Cal. Sup. Ct. Oct. 8, 1998).