Under 28 U.S.C. § 1658(b)(1), a private securities fraud complaint must be filed no more than “2 years after the discovery of the facts constituting the violation” or “5 years after such violation.” In Merck & Co. v. Reynolds, 559 U.S. — (2010), the United States Supreme Court has now made clear that this is not an inquiry notice standard and that the statute begins to run only when plaintiff actually discovers, or when a reasonably diligent plaintiff would have discovered, all of the facts constituting the violation, including scienter.
Plaintiffs alleged in this securities class action that that Merck & Co. knowingly misrepresented the cardiovascular risks associated with the use of Vioxx. Merck contended that the complaint was untimely and moved to dismiss the November 6, 2003, complaint.
Merck contended that the statute of limitations had begun to run as a result of several incidents prior to November 6, 2001. These events included a March 2000 study with troubling cardiovascular results, products liability lawsuits filed against Merck, and an FDA warning letter released to the public stating that Merck’s Vioxx marketing was “false, lacking in fair balance, or otherwise misleading” with regards to cardiovascular risks.
The District Court Dismissed
In dismissing the action, the district court applied an inquiry notice standard. The court determined that the March 2000 study, the FDA warning letter and Merck’s response should have alerted the plaintiffs by October 9, 2001, to a “possibility that Merck had knowingly misrepresented material facts,” thus placing the plaintiffs on “inquiry notice” to investigate further. In re Merck & Co. Sec. Derivative & “ERISA” Litig., 483 F. Supp. 2d 407, 423 (D.N.J. 2007). The court also determined that the plaintiffs had not established that they had undertaken a reasonably diligent investigation and were nevertheless unable to discover their injuries.
The Third Circuit Reversed
The Third Circuit agreed that the events prior to November 2001 constituted “storm warnings.” It ruled however that these storm warnings did not suggest that Merck had acted with scienter and therefore did not put the plaintiffs on “inquiry notice” requiring further investigation. In re Merck & Co. Sec., Derivative & “ERISA” Litig., 543 F.3d 150, 172 (3d Cir. 2008).
The Supreme Court Decision
In affirming the Third Circuit, the Supreme Court took the opportunity to clarify the standards for “discovery” under § 1658(b)(1). It agreed with the parties that “discovery of the facts constituting the violation” occurs either when plaintiff actually discovers the facts or when a reasonably diligent plaintiff would have discovered the facts. The Court, however, rejected any notion that the limitations period may begin to run before discovery.
The Court accordingly rejected a standard of inquiry notice, noting that inquiry notice may occur before the plaintiff discovered or should reasonably have discovered the facts constituting the violation. The Court likewise rejected a contention that the limitations period ordinarily begins at “discovery” but should run from the time of “inquiry notice” when the plaintiff fails to undertake an investigation once placed on “inquiry notice.”
The Court also made clear that “discovery of the facts constituting the violation” means discovery of facts showing each element of the violation, including scienter. The Court rejected any per se rule that discovery of facts tending to show a materially false or misleading statement (or material omission) would mean that plaintiffs would be held to have discovered the fact of scienter. Noting that the relation between factual falsity and state of mind is context-specific in securities fraud, the Court concluded that the statute may require “discovery” of scienter-related facts beyond those facts that show a statement to be materially false or misleading.
Applying these standards, the Court determined that none of the pre-November 2001 events revealed facts indicating scienter. The Court therefore concluded that prior to November 6, 2001, the record did not show that plaintiffs had actually discovered or that a reasonably diligent plaintiff would have discovered the facts constituting the violation.
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This article was originally published by Bingham McCutchen LLP.