Alert: California Ruling Rejects Unfair Business Practices Claim for Securities Violations

March 22, 2004

A recent decision by the California Court of Appeal appears to limit the scope of claims which may be brought under California’s Business and Professions Code §17200, California’s Unfair Competition Law.  The decision lends judicial support to efforts by defendants to narrow the statute’s broad liability provisions.  

Section 17200 prohibits businesses from engaging in “any unlawful, unfair or fraudulent business act or practice and unfair, deceptive, untrue or misleading advertising.” Designed to protect competitors and consumers from unfair business practices, Section 17200 has been frequently used by private plaintiffs to enjoin a wide range of business practices.  The popularity of Section 17200 suits stems in large part from the statute’s liberal pleading and standing requirements, which allow private plaintiffs to bring suit on behalf of the general public, even though they have not suffered a loss themselves.  Although well intentioned, this broad statute has become infamous for its expansive reach and resultant abuse by plaintiffs and attorneys.   

To date, Section 17200 has been used to challenge a wide variety of alleged unfair business practices including minor health violations by nail salons, an employer’s failure to pay overtime, and a food manufacturer’s advertising of certain sugared breakfast cereals.  But in Bowen v. Ziasun Technologies, Inc., 04 C.D.O.S. 2044 (March 8, 2004), the Fourth Appellate District took a more narrow view, holding that the statute did not apply to securities transactions.  Bowen involved two consolidated actions filed by plaintiffs who claimed they were defrauded by a “pyramid” or “Ponzi” scheme orchestrated by foreign brokerage houses.  Specifically, plaintiffs alleged that they were solicited by individuals posing as investment advisors and consultants, and induced to purchase shares of stock based on misrepresentations and omissions of fact.  Plaintiffs’ complaint included a cause of action for unfair, unlawful, and deceptive business practices under Section 17200.  Deciding an issue of first impression, the Bowen court adopted the Ninth Circuit analysis of this issue in Spinner Corp. v. Princeville Dev. Corp., 849 F.2d 388 (9th Cir. 1988), reasoning that the primary legislative intent in enacting Section 17200 was “to protect consumers from unethical business practices resulting in relatively small commercial injuries.”  Therefore, because actions involving securities are not typically on the agenda of consumer advocates, the court held that Section 17200 should not reach such transactions.

Bowen is the first published decision in California to address the applicability of Section 17200 to securities violations.  However, at least 15 other jurisdictions that have considered whether investment securities are within the scope of consumer protection statutes have reached the same conclusion:  claims based on securities violations are not actionable under those statutes.  The Bowen court also took guidance from federal courts, which have never applied the Federal Trade Commission (FTC) Act, the federal counterpart to Section 17200, to securities transactions. 

Since its inception, Section 17200 has been viewed by many as a vehicle for abuse, making California an unpredictable arena for doing business.  However, the Bowen court’s disapproval of Section 17200 as a means to challenge securities transactions may signal a judicial willingness to limit the reach of the statue in non-consumer contexts where other bodies of law provide alternative protection.