Investor Surveys: Key to Accurate Materiality Assessments in Securities Class Actions

A material misstatement in connection with a securities transaction is illegal under federal securities laws. Information is deemed to be material for purposes of Rule 10b-5 if a reasonable investor would have considered a statement or omission significant in making investment decisions. Thus, the concept of a “reasonable investor” is central to the definition of materiality. 

According to one survey, over 70% of securities litigation dismissals involved materiality determinations.[1]  Appellate courts in almost every federal circuit have recently used a powerful defense of puffery to dismiss potentially meritorious fraud actions based upon vague statements of corporate optimism. There is a growing concern that the courts are eroding the bases for securities laws by dismissing too many cases on materiality and puffery grounds without sufficient analysis. This is despite the fact that the question of materiality is a fact-intensive inquiry that should be left to a jury.

Some scholars argue that “[t]he idea that judges possess the sophisticated understanding of investor behavior and market dynamics necessary to validate the puffery doctrine, however, is bizarre.... Not one case referred to actual evidence that investors or markets were unaffected by vague statements of corporate optimism.”[2]  Another scholar noted that judges routinely assume that investors ignore puffing statements and “[t]his straightforward application of many ‘individual [jurists’] personal theorizing’ is in tension with real world evidence of the utility of persuasive advertising.”[3]

This survey highlighted a certain puffery statement and the respondents were asked whether they would consider the statement important in deciding whether to buy the company’s stock. The results showed that “while the judges in the four surveyed cases concluded that no reasonable investor could find the statements challenged therein to be material because they constituted non-actionable puffery, between 33% and 84% of reasonable investors surveyed deemed the statements material.” 

Since the puffery investor survey was conducted in 2008, I wasn’t able to find a single case where securities fraud plaintiffs sought to admit a similar survey. Allowing the use of surveys on the question of materiality in securities cases could improve judicial performance in this area. The definition of materiality is similar in Lanham Act false advertising cases, where the plaintiffs must show that the defendant’s misrepresentation “is ‘material, in that it is likely to influence the purchasing decision.” Castrol Inc. v. Pennzoil Co., 987 F.2d 939, 950-51 (3d Cir. 1993). In Lanham Act cases, “the preferred evidence of an advertisement’s influence over purchasing decisions is actual consumer survey evidence,”  and is regularly introduced through experts who poll individuals about their presently-existing states of mind to establish facts about the group’s mental impressions.

Why does the securities plaintiffs’ bar rely solely on the introspection of judges and juries on questions of materiality and puffery? Empirical surveys of investors would be extremely beneficial in defeating dismissals on the grounds of immateriality and puffery.