Today's oral argument before the Supreme Court in Tellabs, Inc. v. Makor Issues & Rights, Ltd. was as frustrating to many of the Justices as it was to this observer and a packed gallery gathered to hear the most significant case concerning the heightened pleading requirements for securities fraud claims brought under Section 10(b) of the Exchange Act and SEC Rule 10b-5 since Congress enacted the Private Securities Litigation Reform Act (PSLRA) more than a decade ago.
In response to the perceived need to curtail frivolous and abusive "strike" suits, Congress passed the PSLRA in 1995 which contained, among other provisions designed to limit meritless claims (including new lead-plaintiff requirements), a heightened burden of pleading securities fraud. A complaint will be dismissed under Rule 12(b)(6) if it fails to "state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind" -- viz., with scienter (intentionally or recklessly). The "strong inference of scienter" pleading requirement is at the heart of the issues raised in Tellabs.
Carter G. Phillips of Sidley & Austin argued for Petitioners, Kannon K. Shanmugam, assistant to the Solicitor General, argued for the United States as amicus curiae, and Professor Arthur R. Miller of Harvard Law School argued for Respondents. Jason Harrow of Scotusblog posted a preview of the Tellabs argument here and Gretchen Sund collected articles on today's argument from the Wall Street Journal and elsewhere in Scotusblog's Round-Up. The parties' merits briefs are collected here and many of the amici briefs are here and here. The transcript of the argument can be found here.
Although Congress clearly intended to raise the bar on the pleading standard, nothing in the text of the statute or the legislative history gives any indication that it was altering the burden of persuasion in securities cases, nor that it intended to make it functionally impossible for meritorious claims to proceed to the discovery phase. It only wanted to facilitate the gatekeeping function of judges in weeding out meritless cases without imposing an onerous and expensive discovery burden on innocent defendants.
At this morning's argument, so many clear opportunities were missed to give the Court the
straightforward guidance it was clearly seeking that I feel compelled
to answer the Court's unanswered questions. First, the Court asked both sides what the pleading standard should be in securities cases given the civil rules and the PSLRA. Notwithstanding the Government's argument that PSLRA functionally amended the civil rules to eliminate the usual inferences and constructions on motions to dismiss, it cannot fairly be read that way nor is there support for such a reading in the legislative history.
The pleading standard both internally consistent and faithful to the statutory text is -- taking the allegations set forth in the complaint as a whole, accepting them as true, and liberally construing them in the light most favorable to plaintiff -- could a reasonable person draw a strong inference from the alleged facts and circumstances that the defendant acted with the requisite scienter. This is essentially what the Seventh Circuit held in Tellabs:
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