MDCM Holdings, Inc. v. Credit Suisse First Boston Corporation

Brief Fact Summary.

Credit Suisse First Boston Corporation (CSFB) (Defendant) served as the underwriter for the IPO’s of several Internet-related high-tech companies.  These companies claimed that Defendant breached its contracts and implied covenants of good faith and fair dealing, as well as fiduciary duties owed to the issuers, by requiring customers who wanted to purchase IPO shares to pay a share of the profits they realized and by underpricing certain securities to guarantee that they would rise in value after being issued to the pubic.

Synopsis of Rule of Law.

The Securities Litigation Uniform Standards Act of 1998 (SLUSA) does not preempt a claim by an issuer against an underwriter for breach of contract, breach of implied covenants, breach of fiduciary duties, and unjust enrichment.

Facts.

MDCM Holdings, Inc. (formerly Mortgage.com) (Plaintiff) was one of several Internet-related, high-tech companies that wanted to go public through an initial public offering (IPO) of stock.  These companies contracted with Credit Suisse First Boston Corporation (CSFB) (Defendant) to be their underwriter.  Following underwriting agreements with the companies, CSFB (Defendant) received 7 percent of the profits.  MDCM (Plaintiff) brought a class action on behalf of issuers that had used CSFB (Defendant) in 1998 to 2000 and whose securities increased in value 15 percent or more about their original offering price within 30 days after the IPO.  The companies argued that Defendant breached its contracts and implied covenants of good faith and fair dealing, as well as fiduciary duties owed to the issuers, by requiring customers who wanted to purchase IPO shares to pay a share of the profits they gained and by underpricing certain securities to guarantee that they would rise in value once issued to the public.  They also claimed that Defendant gained unjust enrichment by these practices, alleging that the companies would have realized additional gross proceeds if not for Defendant’s intentional underpricing.  Defendant moved to dismiss on the ground that these state law claims were preempted by the Securities Litigation Uniform Standards Act of 1998 (SLUSA), 15 U.S.C. §§ 77p, 78bb(f).

Issue.

Does the Securities Litigation Uniform Standards Act of 1998 (SLUSA) preempt a claim by an issuer against an underwriter for breach of contract, breach of implied covenants, breach of fiduciary duties, and unjust enrichment?

Held.

(Scheindlin, J.)  No.  The Securities Litigation Uniform Standards Act of 1998 (SLUSA) does not preempt a claim by an issuer against an underwriter for breach of contract, breach of implied covenants, breach of fiduciary duties, and unjust enrichment.  The intent of SLUSA was to prevent plaintiffs from seeking to evade the protections that federal law provides against abusive litigation by filing suit in state court, rather than federal court, and its purpose was to make federal court the exclusive venue for most securities class actions.  SLUSA provided for federal preemption of any claim that was (1) a class action (2) based on state law (3) where the plaintiff alleged either a “misrepresentation or omission of material fact†or “any manipulative or deceptive device or contrivance†and (4) in connection with the purchase or sale of a covered security.  The third element is missing here, therefore, SLUSA does not preempt MDCM’s (Plaintiff) class action.  CSFB’s (Defendant) action was not a misrepresentation or omission, but rather constituted a breach of contract.  It would be inappropriate in this case to transform Plaintiff’s contract claims into fraud claims because state law would require such claims to be dismissed.  A simple breach of contract is not to be considered a tort unless a legal duty independent of the contract itself has been violated.  Motion to dismiss denied.

Discussion.

SLUSA was passed to remedy one of the unintended consequences of the Private Securities Litigation Reform Act of 1995, which caused parallel suits to be filed in both state and federal court, so that discovery in the state case could be used in the federal case where it otherwise would not be available resulting from a federal stay of discovery.  This increased the cost of defending such class actions, and issuers, primarily those located in Silicon Valley in California, pushed for the reforms brought about by SLUSA.  It is important to remember, however, that SLUSA applies only to “covered securitiesâ€â€”those traded on national stock exchanges.  For example, unlisted debt or debt securities issued in a private placement are exempted.