In April, the Colorado Supreme Court decided Farmers Ins. Exchange v. Benzing, 206 P.3d 812 (Colo. 2009), in which it rejected the “fraud on the market” theory of reliance in a consumer class action.  Now, Garcia v. Medved Chevrolet, Inc., No. 09CA1465 (Colo. Ct. App., Nov. 12, 2009), the Colorado Court of Appeals has rejected the alternative reliance theory that the Benzing court  declined to address: the presumed reliance theory first recognized in the securities class action context in Affiliated Ute Citizens v. United States, 406 U.S. 128 (1972) could apply to establish common proof of reliance in a consumer class action involving alleged fraud by omission.  A synopsis, along with a copy of the opinion, is available at Law Week: http://www.lawweekonline.com/?p=1914

The Colorado Supreme Court issued one of its most significant class action decisions in recent years today in Farmers Ins. Exch. v. Benzing, No. 07SC483 (Colo., April 27, 2009), rejecting the so-called “fraud on the market” theory of reliance and loss causation in an insurance class action.  Justice Bender authored the decision on behalf of a unanimous court, with two justices not participating.  The key issues addressed in the opinion include:

1) the trial court had discretion to decertify a previously certified class, despite the court of appeals’ finding that the facts and arguments presented in connection with the  decertification motion could have been raised at the initial certification stage, as part of the court’s “continuing obligation to review whether proceeding as a class action is appropriate”, Benzing, slip op. at 19; and

2) the fraud-on-the-market theory of reliance and loss causation was not applicable in an insurance class action where there was no efficient market and where the information alleged to have been concealed was a matter of public record.  Benzing, slip op. at 23-31.

The Court declined to address an alternative theory, also borrowed from the securities context, that common reliance or injury could be established by presumption or inference in a case involving a material omission of fact, as articulated in Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128, 153-54 (1972).  The court acknowledged a split of authority on whether the Affiliated Ute doctrine could be applied in consumer class actions, but declined to rule one way or another, stating that the issue been “insufficiently raised” before the trial court and court of appeals.  Benzing, slip op. at 32-33 & n.9.

The Colorado Supreme Court held oral argument today in the case of Farmers Insurance Exchange v. Benzing, No. 07SC483.  Audio of the argument is now available at the Colorado Supreme Court’s website.  Among the issues in the case is whether the “fraud on the market” theory, and other presumptions of reliance recognized in securities cases, applied to permit the plaintiff in a consumer fraud case to attempt to prove causation of harm on a class-wide basis without having to prove that each class member suffered injury directly as a result of the alleged fraud. 

The appeal is from a trial court judge’s order decertifying an earlier class certification order authored by another judge.  The second judge had concluded that individualized issues of causation and reliance precluded certification of claims for fraud by omission, finding that whether a policyholder would have made the decision not to buy certain insurance coverage but for the alleged nondisclosures required a case-by-case determination.  The Court of Appeals had relied on the possibility that the plaintiffs might be able to prove liability on a “fraud on the market” theory in holding that the trial court had abused its discretion in decertifying the class.  Under the “fraud on the market” theory, a defendant can be held liable for securities fraud even if each individual shareholder did not rely on the misrepresentation or omission of fact if it can be proven that the fraud had the effect of depressing the overall value of the stock in an efficient market.

The issues for which the Petition for Certiorari was granted are summarized in this ClassActionBlawg entry.

Many of the questions focused on whether there were facts in the record to support the conclusion that proof of causation could be made by class-wide evidence without relying on the “fraud on the market” theory.  Other key questions focused on whether the trial court’s exercise of discretion to decertify the class could be upheld under an abuse of discretion standard even if other courts might have reached the opposite conclusion.  Two concepts not addressed in detail were the impact of the regulated nature of insurance premiums and the fact that premium rates are driven primarily by the actuarial risk assumed by insurers, not by pure market competition.  Both of these facts raise doubts about any assumption that more “fully informed” consumers might have been able to drive down the cost of premiums.

The “fraud on the market” and “price inflation” theories of loss causation appeared to be a growing trend in consumer class actions until earlier this year when the Second Circuit Court of Appeals in the light cigarettes marketing case, McLaughlin v. Philip Morris USA, Inc. et al., No. 06-4666-cv (April 3, 2008).  In McLaughlin, the court held that these types of theories could not be used to justify certification of a consumer class because they were too attenuated and speculative.

Coincidentally, Securities Docket reports today that a method suggested by Michigan law professor Adam Pritchard for companies to avoid or reduce exposure for certain ”fraud on the market” securities claims by amending a company’s bylaws has now been proposed by a shareholder of Alaska Air, Inc. to its Chairman and CEO.  That entry also has a link to the proposal itself.