California Central District Denies Certification of Proposed Class of Unsponsored Adr Buyers for Lack of Typicality – Corporate/Commercial Law


United States: California Central District Denies Certification of Proposed Category of Unsponsored Adr Buyers for Lack of Typicality

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On January 7, 2022, Judge Dean D. Pregerson of the United States District Court for the Central District of California denied plaintiffs’ class certification application in an alleged class action lawsuit against a Japanese manufacturer of products and electronic and energy services (the “Company”) alleging violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange Act”). Stoyas v. Toshiba Corp., No. 2:15-CV-04194 DDP-JC (CD Cal. Jan. 7, 2022). The plaintiffs, purchasers of the company’s unsponsored American Depositary Receipts (“ADRs”), alleged that the company concealed its deliberate use of incorrect accounting over a period of at least six years to inflate its pre-tax profits by more than $2.6 billion and hiding at least $1.3 billion in impairment losses in its US nuclear business. In a previous decision in the case referred to here, the Ninth Circuit ruled that a purchaser of unsponsored ADRs can maintain a cause of action under the Exchange Act as long as the purchaser has “irrevocable liability” in the United States to take and pay for a security . After refusing to dismiss an amended claim in a decision referred to herethe Court denied the plaintiffs’ motion for class certification, finding that the plaintiffs failed to meet the typicality requirement for class certification under Rule 23(a) because, unlike the class members proposed, the plaintiffs had acquired the shares of the company in Japan.

The plaintiffs are pension funds that purchased shares of the Company’s unsponsored ADRs on the over-the-counter (“OTC”) market in the United States through a third-party investment manager (the ” Investment manager”). The Investment Manager has placed a buy order for unsponsored ADRs in New York, through its broker (the “Broker”), also in New York. The Broker then executed, on behalf of the Investment Manager, the purchase of ordinary shares of the Company on the Tokyo Stock Exchange for conversion into ADR. The applicants proposed to certify a class defined as all persons who purchased the company’s securities between May 8, 2012 and November 12, 2015 using the facilities of the OTC market. In opposing class certification, the company argued that the plaintiffs could not meet the typicality requirement because they had not acquired the company’s titles in the United States, but rather in Japan, where the company’s underlying ordinary shares had been purchased prior to conversion to ADR. The plaintiffs argued that since the broker was acting neither as an agent of the investment manager nor as an agent of the plaintiffs at the time it acquired the underlying common shares, liability does not could not have been incurred until the ADRs were sold in the separate transaction, after the conversion.

In denying Plaintiffs’ motion for class certification, the Court applied the “finality test” first articulated by the Second Circuit in Absolute Activist Value Master Fund Ltd. vs. Ficeto, 677 F.3d 60 (2nd Cir. 2012). This test focuses on “where [the] the purchaser was irrevocably liable to take and pay for the securities.” In rejecting the plaintiffs’ argument that the securities were purchased in the United States, the Court noted that “[p]the plaintiffs’ approach attaches little importance to the first stage of the ADR’s transformation process: the purchase of
[the Company’s] ordinary shares.” The Court held that the plaintiffs were legally and contractually obligated to take and pay for the ADRs, once converted,”[t]he moment [the Broker] concluded the transaction for [the Company’s] ordinary shares on the Tokyo Stock Exchange.”

The Court also considered the plaintiffs’ assertion that the broker was not acting on behalf of the investment manager or the plaintiffs when it acquired the underlying common stock, but rather acted as a “risk-free principal.” . Specifically, the plaintiffs argued that the broker had acquired the “ADRs (and the underlying common shares) for
[the Broker’s] own account, as principal and counterparty, then sold the ADRs to [plaintiffs] in a separate transaction. The Court held, however, that the fact that the broker “acted as a ‘riskless principal’ only reinforced[ed] the proposal that [plaintiffs]liability incurred in Japan.” According to the Court, since the Broker already knew that the Investment Manager would buy the converted ADRs at market price when it executed the common stock transaction, “the triggering event which caused
[the Investment Manager] (and by extension, [plaintiffs]) to incur irrevocable liability occurred in Japan when [the Broker] acquired the shares of [the Company’s] ordinary shares on the Tokyo Stock Exchange.”

With respect to Plaintiffs’ motion to certify a class of claims under the Japanese Financial Instruments and Exchanges Act (“JFIEA”), the Court denied Plaintiffs’ motion, without prejudice, as it concluded that the parties had raised “potentially determinative legal issues”. whether the plaintiffs had standing under the JFIEA. The Court held that these questions were “more appropriate to a motion for summary judgment rather than a motion for collective certification”.

Stoyas v. Toshiba Corp.

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