District Court finds that Securities Fraud Claim could be based on Purchase and Sale of ADRs on OTC Marketplace

The World in U.S. Courts: Spring 2017 - Securities Law/Commodities Exchange Act (CEA) | January.04.2017

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In re: Volkswagen “Clean Diesel” Marketing, Sales Practices, and Product Liability Litig., US District Court for the Northern District of California, January 4, 2017

Two executives of Volkswagen in Germany sought to be dismissed from class action litigation arising out of VW’s use of software designed to permit VW diesel cars falsely to pass federal and State emissions requirements.  The case principally involved claims under Section 10(b) of the Securities Exchange Act of 1934 and implementing SEC Rule 10b-5 arising from purchases of American Depositary Receipts (ADRs) sponsored by VW and traded “over the counter” (OTC) in the US.  The fraud described by the Court had the effect of inflating the price of VW’s ADRs in the US.

In 2010, the US Supreme Court held that Section 10(b) (and therefore Rule 10b-5) did not have extraterritorial effect, and thus only reached claims regarding securities “listed on a domestic exchange” or where the transactions at issue were “domestic.”  Addressing an unsettled issue, the District Court first concluded that the OTC marketplace was not a “domestic exchange.”  It then addressed the transactions at issue, noting that courts had found a US domestic purchase or sale to have occurred where “irrevocable liability’ for a transaction arose or title was transferred in the US.  That situation described the ADRs, which had been sold to US advisors for resale to customers including the plaintiffs.  The defendants argued, however, that Section 10(b) nevertheless should not apply because the transactions were “predominantly foreign.” 

The District Court disagreed, distinguishing an earlier and unrelated case in which a contract merely tied to the price of VW stock in Germany was found inadequate to support US jurisdiction.  In the case at bar, the Court found to be dispositive VW’s sponsorship of the ADRs and intent to promote US transactions as well as the fact that the ADR agreements were subject to SEC jurisdiction and governed by New York law.  The Court did not think the fact that German law alone governed disclosures and reports made by VW in Germany eliminated the otherwise substantial US interest in the transactions.

[Editor’s Note:  The In re Volkswagen case is also addressed in the Personal Jurisdiction/Forum Non Conveniens section of this report.]

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