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Charles H. Behlen v. Merrill Lynch

Court: Court of Appeals for the Eleventh Circuit
Date filed: 2002-11-08
Citations: 311 F.3d 1087
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                                                                                  [PUBLISH]

                  IN THE UNITED STATES COURT OF APPEALS

                            FOR THE ELEVENTH CIRCUIT
                             ________________________                         FILED
                                                                         U.S. COURT OF
                                                                            APPEALS
                                    No. 01-16424                       ELEVENTH CIRCUIT
                                                                          NOV 8, 2002
                              ________________________
                                                                        THOMAS K. KAHN
                                                                             CLERK
                            D. C. Docket No. 01-00298-CV-M

CHARLES H. BEHLEN,
individually and on behalf of a
class of similarly situated persons
and entities,

                                                    Plaintiff-Appellant,

       versus

MERRILL LYNCH,
PHOENIX INVESTMENT PARTNERS, LTD.,
                                 Defendants-Appellees.
                  ________________________

                      Appeal from the United States District Court
                         for the Southern District of Alabama
                            _________________________
                                  (November 8, 2002)


Before WILSON, RONEY and ALARCON*, Circuit Judges.

_______________________

       *Honorable Arthur L. Alarcon, U.S. Circuit Judge for the Ninth Circuit, sitting by
designation.
WILSON, Circuit Judge:

      Charles H. Behlen, individually and on behalf of a class of similarly situated

individuals, appeals the district court’s denial of his motion to remand his case to

state court and its order dismissing his lawsuit. The district court determined that it

had removal and supplemental jurisdiction over the action and therefore denied the

motion to remand. The court further determined that the action was barred by the

Securities Litigation Uniform Standards Act of 1998 (SLUSA), 15 U.S.C. §§ 77p,

78bb. Thus, the court dismissed Behlen’s class-wide claims with prejudice and his

individual claims without prejudice. Because we determine that the action was

preempted by the SLUSA and subject to dismissal, we affirm.

                                  BACKGROUND

      From November 1999 to March 2000 Behlen purchased shares in a mutual

fund known as the Phoenix-Engemann Aggressive Growth Fund. Behlen

purchased the shares from Merrill Lynch & Co. and Phoenix Investment Partners,

Ltd. (the defendants). On March 15, 2001, Behlen filed a civil action in state court

seeking to recover money damages resulting from his purchase of those shares. In

his original complaint, which was styled as a class action, Behlen asserted various

state law claims, including claims for breach of contract, breach of implied

covenants and duties, breach of fiduciary duty, unjust enrichment, suppression,


                                          2
misrepresentation, and negligence and/or wantonness. He alleged that the

defendants sold him and the class members Class B shares in the growth fund

when they were unknowingly eligible to purchase Class A shares. He further

alleged that the defendants sold them the wrong shares, because the Class B shares

were subject to higher fees and commissions than the Class A shares.

      On April 27, 2001, the defendants removed the lawsuit from state court to

the United States District Court for the Southern District of Alabama, asserting that

the district court had subject matter jurisdiction over the case pursuant to the

SLUSA. Three days later, the defendants filed a motion to dismiss Behlen’s

complaint. Behlen subsequently filed an amended complaint, in which he asserted

the same state law claims, deleted the claims for misrepresentation and

suppression, and added claims for money had and received and for an accounting.

Behlen also removed all explicit references to any fraudulent activity by the

defendants. He argued that the SLUSA was no longer applicable to his claims and

filed a motion to remand the case to state court.

      The district court ultimately denied Behlen’s motion to remand and granted

the defendants’ motion to dismiss the action, dismissing the class-wide claims with

prejudice and Behlen’s individual claims without prejudice. This appeal followed.




                                           3
                             STANDARD OF REVIEW

      We review the denial of a motion to remand de novo. Butero v. Royal

Maccabees Life Ins. Co., 174 F.3d 1207, 1211 (11th Cir. 1999). We also “review[]

de novo the dismissal of a complaint pursuant to [Federal Rule of Civil Procedure]

12(b)(6).” Oxford Asset Mgmt., Ltd. v. Jaharis, 297 F.3d 1182, 1187 (11th Cir.

2002).

                                    DISCUSSION

                               I. Removal Jurisdiction

      We first address whether the district court had removal jurisdiction over this

action. Although Behlen asserted only state law claims in his original complaint,

the defendants removed the case to the district court based upon their belief that

Behlen actually alleged violations of federal securities laws, which fell within the

scope of the SLUSA.

      Generally, whether an action raises a federal question “is governed by the

‘well-pleaded complaint rule,’ which provides that federal jurisdiction exists only

when a federal question is presented on the face of the plaintiff’s properly pleaded

complaint.” Caterpillar Inc. v. Williams, 482 U.S. 386, 392 (1987). Thus, the

plaintiff is “the master of the claim . . . [and] may avoid federal jurisdiction by

exclusive reliance on state law.” Id. Furthermore, “a case may not be removed to


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federal court on the basis of a federal defense, including the defense of pre-

emption, even if the defense is anticipated in the plaintiff’s complaint, and even if

both parties concede that the federal defense is the only question truly at issue.”

Id. at 393.

      The Supreme Court, however, has recognized “an ‘independent corollary’ to

the well-pleaded complaint rule, known as the ‘complete pre-emption’ doctrine.”

Id. (citation omitted). The Court explained,

      On occasion, the Court has concluded that the pre-emptive force of a
      statute is so extraordinary that it converts an ordinary state common-
      law complaint into one stating a federal claim for purposes of the
      well-pleaded complaint rule. Once an area of state law has been
      completely pre-empted, any claim purportedly based on that pre-
      empted state law is considered, from its inception, a federal claim, and
      therefore arises under federal law.

Id. (citation omitted) (internal quotation marks omitted).

      Thus, whether a district court has removal jurisdiction over a state law case

alleging securities fraud depends upon whether the claims fall within the scope of

the SLUSA and are therefore preempted. In making this determination, it is

helpful to consider the SLUSA and its historical context.

      Congress passed the Private Securities Litigation Reform Act of 1995

(PSLRA), which established uniform standards for class actions alleging securities

fraud. The procedural reforms enacted by the PSLRA were intended to prevent


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plaintiffs from bringing “strike suits”1 in securities matters. H.R. Conf. Rep. No.

105-803, at 13 (1998) (discussing the PSLRA). Congress found that the high costs

of defending strike suits often forced defendants to settle meritless class actions.

H.R. Conf. Rep. No. 104-369, at 31 (1995), reprinted in 1995 U.S.C.C.A.N. 730,

730. The PSLRA addressed this problem by instituting heightened pleading

requirements for class actions alleging fraud in the sale or purchase of national

securities.2 Riley v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 292 F.3d 1334,


       1
        A strike suit is defined as “[a] suit . . . often based on no valid claim, brought either for
nuisance value or as leverage to obtain a favorable or inflated settlement.” Black’s Law
Dictionary 1448 (Bryan A. Garner ed., 7th ed. 1999).
       2
         Section 78u-4 provides in relevant part,

        (1) Misleading statements and omissions
          In any private action arising under this chapter in which the plaintiff alleges that the
      defendant–
                (A) made an untrue statement of a material fact; or
                (B) omitted to state a material fact necessary in order to make the statements
              made, in the light of the circumstances in which they were made, not
              misleading;
      the complaint shall specify each statement alleged to have been misleading, the reason or
      reasons why the statement is misleading, and, if an allegation regarding the statement or
      omission is made on information and belief, the complaint shall state with particularity all
       facts on which that belief is formed.
        ....
        (3) Motion to dismiss; stay of discovery
                (A) Dismissal for failure to meet pleading requirements
                   In any private action arising under this chapter, the court shall, on the motion
              of any defendant, dismiss the complaint if the requirements of paragraphs (1) and
              (2) are not met.
                (B) Stay of discovery
                   In any private action arising under this chapter, all discovery and other
              proceedings shall be stayed during the pendency of any motion to dismiss, unless


                                                  6
1340 (11th Cir.), cert. denied, 71 U.S.L.W. 3178 (U.S. Oct. 15, 2002) (No. 02-

378). The PSLRA also required a mandatory stay of discovery until the district

court could determine the legal sufficiency of the class action claims. See 15

U.S.C. § 78u-4(b)(3)(B).

       By 1998, however, it became apparent to Congress that the objectives of the

PSLRA were being frustrated, because plaintiffs were evading its heightened

pleading requirements by bringing suit in state court rather than federal court.

Securities Litigation Uniform Standards Act of 1998, Pub. L. No. 105-353, §

2(2)–(3), 112 Stat. 3227, 3227; Lander v. Hartford Life & Annuity Ins. Co., 251

F.3d 101, 108 (2d Cir. 2001) (noting that “litigants were able to assert many of the

same causes of action, but avoid the heightened procedural requirements instituted

in federal court”). Congress thus resolved that

      in order to prevent certain State private securities class action lawsuits
      alleging fraud from being used to frustrate the objectives of the Private
      Securities Litigation Reform Act of 1995, it is appropriate to enact
      national standards for securities class action lawsuits involving
      nationally traded securities, while preserving the appropriate
      enforcement powers of State securities regulators and not changing the
      current treatment of individual lawsuits.



             the court finds upon the motion of any party that particularized discovery is
              necessary to preserve evidence or to prevent undue prejudice to that party.

15 U.S.C. § 78u-4(b)(1), (3).


                                               7
Pub. L. No. 105-353, § 2(5).

        As a result, Congress passed the SLUSA, which amended the Securities Act

of 1933 and the Securities Exchange Act of 1934 and made federal court, with

limited exceptions, the sole venue for class actions alleging fraud in the purchase

and sale of covered securities.3 Riley, 292 F.3d at 1341. Congress further

mandated that such class actions would be governed by federal law rather than

state law. See H.R. Conf. Rep. No. 105-803, at 13. To that end, the SLUSA

preempts certain state law claims, allows for removal of state actions to federal

court, and requires immediate dismissal of “covered lawsuits.” Riley, 292 F.3d at

1341.


        3
         The SLUSA amended the 1933 Act to provide as follows:

            (b) Class action limitations
                    No covered class action based upon the statutory or common
                law of any State or subdivision thereof may be maintained in any
                State or Federal court by any private party alleging–
                   (1) an untrue statement or omission of a material fact in
                connection with the purchase or sale of a covered security; or
                   (2) that the defendant used or employed any manipulative or
                deceptive device or contrivance in connection with the purchase or
                sale of a covered security.
            (c) Removal of covered class actions
                   Any covered class action brought in any State court involving a covered
                security, as set forth in subsection (b), shall be removable to the Federal
                district court for the district in which the action is pending, and shall be
                subject to subsection (b).

15 U.S.C. § 77p(b)–(c). An identical amendment was made to the 1934 Act. See id. §
78bb(f)(1)–(2).

                                                 8
      A party seeking to remove an action to federal court pursuant to the SLUSA

bears the burden of showing that “(1) the suit is a ‘covered class action,’ (2) the

plaintiffs’ claims are based on state law, (3) one or more ‘covered securities’ has

been purchased or sold, and (4) the defendant misrepresented or omitted a material

fact ‘in connection with the purchase or sale of such security.’” Id. at 1342

(emphasis omitted). The district court found that each of these requirements had

been met and that the action was therefore removable. Behlen, however, argues

that the case was not removable, because the action was not a “covered class

action” and the misconduct alleged in the complaint was not “in connection with”

the sale or purchase of a security.

                            A. “Covered Class Action”

      Behlen argues that his case was not removable, because it was not a

“covered class action.” Behlen points to the statutory language of the SLUSA,

which provides that “[n]o covered class action based upon the statutory or

common law of any State or subdivision thereof may be maintained in any State

or Federal court by any private party.” 15 U.S.C. §§ 77p(b), 78bb(f)(1) (emphasis

added). Behlen contends that at the time of removal the case was not maintained

as a class action, because the state court had not determined whether the case

should proceed in a class-wide fashion.


                                          9
      We find no merit in Behlen’s argument and believe that it is based upon a

misreading of the statute. The SLUSA does not require that an action be

“maintained as a class action” before it can be removed; rather, it merely provides

that no class action falling within the scope of its coverage can be maintained in a

state or federal court, which means that dismissal of a “covered class action” is

required. Prager v. Knight/Trimark Group, Inc., 124 F. Supp. 2d 229, 231 (D.N.J.

2000).

      The SLUSA defines a “covered class action” as

      any single lawsuit in which . . . damages are sought on behalf of more
      than 50 persons or prospective class members, and questions of law
      or fact common to those persons or members of the prospective class,
      without reference to issues of individualized reliance on an alleged
      misstatement or omission, predominate over any questions affecting
      only individual persons or members.

15 U.S.C. §§ 77p(f)(2)(A)(i)(I), 78bb(f)(5)(B)(i)(I) (emphasis added). We thus

believe that it is clear from the statutory language that prospective class actions are

removable to federal court even if the state court has not determined whether the

action should go forward as a class action. Were we to find that a class action must

be “maintained” as such before it is subject to removal under the SLUSA, we

essentially would require that the action be certified in state court before it could be

removed to federal court. Nothing in the statutory language of the SLUSA,

however, suggests that certification prior to removal is required. Indeed, requiring

                                          10
certification prior to removal would frustrate the objectives of the SLUSA rather

than further them. The SLUSA’s provisions “were designed to enable securities

defendants to obtain early dismissal of frivolous class actions, and thereby avoid

the high expense of discovery.” Riley, 292 F.3d at 1341. Requiring certification

prior to removal would entail potentially lengthy and expensive pretrial practice

and discovery in state court, regardless of the merits of the action. We believe that

such a prospect is contrary to the stated objectives of the SLUSA.

                                  B. “In Connection with”

       Behlen next argues that the district court’s exercise of removal jurisdiction

over his case was improper, because the misconduct alleged in the complaint did

not occur “in connection with” the sale or purchase of securities.

       The SLUSA does not define the phrase “in connection with the purchase or

sale of a covered security.” The Supreme Court has not had occasion to interpret

this phrase in the context of the SLUSA, but has interpreted the identical phrase as

it appears in Rule 10b-5, which implements section 10(b) of the 1934 Act.4 See

Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 737–38 (1975). Thus, in

       4
         Section 10(b) makes it “unlawful for any person . . . [t]o use or employ, in connection
with the purchase or sale of any security . . ., any manipulative or deceptive device or
contrivance in contravention of such rules and regulations as the [SEC] may prescribe.”
Securities Exchange Act of 1934 § 10(b), 15 U.S.C. § 78j(b). Rule 10b-5 prohibits the use of
“any device, scheme, or artifice to defraud” or any other “act, practice, or course of business”
that “operates . . . as a fraud or deceit.” 17 C.F.R. § 240.10b-5.

                                                11
Riley, we looked to Blue Chip when we determined that Congress intended the

phrase “in connection with” to have the same meaning under the SLUSA that it has

under section 10b-5, because the SLUSA was enacted as an amendment to the

1933 and 1934 Acts. 292 F.3d at 1342–43; see also Green v. Ameritrade, Inc., 279

F.3d 590, 597 (8th Cir. 2002).

      In Blue Chip, the Supreme Court held that there is no cause of action under

section 10b-5 unless a challenged misrepresentation or omission caused the

plaintiff to buy or sell a particular stock. 421 U.S. at 748–49. Based upon that

holding, the Eighth Circuit held in Green that the SLUSA did not preempt a state

law breach of contract claim where the plaintiff failed to allege that the defendants

made misrepresentations that caused them to buy a covered security. 279 F.3d at

598–99. Green filed a breach of contract action in state court, alleging that he

contracted with Ameritrade to receive “real time” stock quotes on Ameritrade’s

Web site, but the quotes listed on the site actually were not in real time. Id. at

593–94. The court found that Green did not allege in his amended complaint that

the delayed quotes caused him to buy or sell a covered security; rather, he merely

alleged that he contracted for a service, but did not receive the kind of information

for which he believed he was paying. Id. at 598–99.




                                          12
       In contrast to the plaintiff in Green, Behlen specifically alleged that the

defendants “negligently, recklessly or intentionally misrepresented the fact that

Plaintiff and the class would be sold Class A shares,” but “sold to them more

expensive Class B shares.” Additionally, he alleged that the defendants

“suppressed the true facts concerning the repeated sales to them of Class B Shares”

and “concealed and suppressed the illegality of their conduct . . . and continued to

sell them Class B shares.” It is clear that the crux of the complaint was that the

defendants either misrepresented or omitted crucial facts about the Class A and

Class B shares, thus causing him and the class to invest in inappropriate securities.

Behlen argues, however, that these wrongful acts were not made “in connection

with” the sale of securities, but merely were incidental to the sale of the securities.

       We believe Behlen’s claims are similar to the claims asserted by the

plaintiffs in Dudek v. Prudential Securities, Inc., 295 F.3d 875 (8th Cir. 2002). In

that case, the plaintiffs filed a class action suit in state court alleging that the

defendants improperly marketed tax-deferred annuities to accounts that already

enjoyed tax-deferred status. Id. at 877. The plaintiffs argued that the annuities

were inappropriate investments, “because tax-deferred accounts did not need the

tax benefits, and therefore the extra fees and costs that tax-deferred annuities

entail[ed] were a waste of the investors’ money.” Id. The plaintiffs acknowledged


                                            13
that the annuities at issue were “covered securities,” but argued that their claims

were not preempted by the SLUSA because they were based upon the defendants

excessive fees rather than misconduct “in connection with” the sale of securities.

Id. at 878. The Eighth Circuit rejected the plaintiffs’ argument that they did not

allege fraud, misrepresentation, or an omission of material fact; it agreed with the

district court that the gravamen of the plaintiffs’ complaint “involve[d] an untrue

statement or substantive omission of a material fact in connection with the

purchase or sale of a covered security.” Id. at 879 (internal quotation marks

omitted).

       In the instant case, although Behlen argues that the excess fees and

commissions paid by the class members were incidental to the sale of the

securities, it seems certain that the very reason they were sold the Class B shares

was because those shares were subject to the excess fees and commissions. Thus,

the fees and commissions were not incidental to the sale of the securities, but were

an integral part of the transactions. To the extent that the defendants

misrepresented which shares would be sold to the class, those misrepresentations

were made “in connection with” the sale of the shares.5

       5
         In support of his argument, Behlen relies heavily upon SEC v. Zandford, 238 F.3d 559
(4th Cir. 2001), rev’d, __ U.S. __, 122 S. Ct. 1899 (2002). That decision was reversed, however,
by a unanimous Supreme Court. See Zandford, __ U.S. __, 122 S. Ct. 1899. The Court noted
that the SEC always has adopted a broad reading of the phrase “in connection with the purchase

                                              14
       Having determined that the action was a “covered class action” alleging

misrepresentation “in connection with” the sale of covered securities, we conclude

that the removal of the case pursuant to the SLUSA was proper. Furthermore, once

the case was removed to the district court, the SLUSA required that it be

dismissed.6

                                           II. Remand

       We now address whether the district court should have remanded the case to

state court after Behlen amended his complaint. Behlen argues that even if the

action was removable to district court, the court should have remanded the case

back to state court after he amended his complaint. Behlen admits that he amended


or sale of any security.” Id. at __, 122 S. Ct. at 1903. The Court stated, “While the statute must
not be construed so broadly as to convert every common-law fraud that happens to involve
securities into a violation of § 10(b), neither the SEC nor this Court has ever held that there must
be a misrepresentation about the value of a particular security in order to run afoul of the Act.”
Id. (citation omitted). The Court went on to state that the securities sales and the broker’s
fraudulent acts were not independent events, but, in fact, coincided with each other because each
sale was made to further the broker’s fraudulent scheme. Id. at __, 122 S. Ct. at 1904.

       6
         Behlen further argues that the district court erred in dismissing the class-wide claims
with prejudice. Behlen characterizes the district court’s dismissal of the class-wide claims as a
ruling that the class action could not be certified. The district court, however, did not determine
whether Behlen satisfied the certification requirements of Federal Rule of Civil Procedure 23.
The district court simply adhered to the text of §§ 77p and 78bb and determined that Behlen’s
class-wide claims were barred.
        Because Behlen’s case was a “covered class action” asserting state law claims that fell
within the scope of the SLUSA, the district court had no choice but to dismiss the class-wide
claims. Furthermore, the claims were subject to dismissal with prejudice, because Behlen could
not recover on any state law claim alleging that he and the class were wrongfully induced to buy
the Class B shares.

                                                 15
the complaint to delete all claims and allegations that might be deemed to fall

within the scope of the SLUSA. Absent allegations of misrepresentation, he

argues, the complaint no longer contained allegations of the kind of misconduct

covered by federal securities laws. Behlen thus contends that the district court no

longer had subject matter jurisdiction over the case and should have remanded the

case to state court.

      In Poore v. American-Amicable Life Insurance Co. of Texas, 218 F.3d 1287,

1290–91 (11th Cir. 2000), we joined our sister circuits in holding that if a district

court has subject matter jurisdiction over a diversity action at the time of removal,

subsequent acts do not divest the court of its jurisdiction over the action.

Accordingly, we held that even though the plaintiffs amended their complaint to

reduce the amount in controversy, the district court still retained diversity

jurisdiction over the action and “committed reversible error by remanding based on

Appellees’ post-removal amended complaint.” Id. at 1292.

      In the instant case, the district court had federal question jurisdiction over

Behlen’s original complaint, because the claims therein were preempted by the

SLUSA. Pursuant to 28 U.S.C. § 1367(a), the court also had supplemental

jurisdiction over the remaining state law claims in the original complaint. The

court had discretion to retain jurisdiction over the state law claims even after


                                          16
Behlen amended the complaint to remove any federal cause of action. See Porsche

Cars N. Am., Inc. v. Porsche.Net, 302 F.3d 248, 256 (4th Cir. 2002); Mauro v. S.

New England Telecomms., Inc., 208 F.3d 384, 388 (2d Cir. 2000) (per curiam).

Moreover, it was proper for the court to retain jurisdiction over Behlen’s amended

complaint, because, despite his removal of the allegations that would bring his

claims within the scope of the SLUSA, the amended complaint still presents a

federal question.

      In the amended complaint, Behlen alleged that “Defendants wrongfully sold

Plaintiff and the Class, or wrongfully allowed Plaintiff and the Class to purchase,

Class B shares in a mutual fund which allowed Defendants to collect higher fees.”

Thus, Behlen alleged wrongful conduct “in connection with” the purchase of the

growth fund shares. He also implicitly alleged that the defendants failed to

disclose material facts about which class of shares was sold to him and the class.

Because Behlen alleged in the amended complaint that the defendants misstated or

omitted material facts “in connection with” the purchase and sale of the growth

fund shares, it, too, fell within the scope of the SLUSA and the district court did

not err when it denied Behlen’s motion to remand the case to state court.

                                  CONCLUSION




                                          17
      Because Behlen’s action was a “covered class action” asserting state law

claims for misrepresentation and/or omission “in connection with” the purchase or

sale of covered securities, we find that it was preempted by the SLUSA and subject

to dismissal. We therefore find that the district court properly asserted removal

jurisdiction over the case, correctly denied Behlen’s motion to remand the case,

and did not err when it dismissed the class-wide claims with prejudice and the

individual claims without prejudice. The order of the district court, therefore, is

AFFIRMED.




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