Last month, the Supreme Court granted certiorari to clarify the much-litigated issue of when plaintiffs are deemed to have “inquiry notice” of their claims sufficient to trigger running of the statute of limitations for federal securities fraud claims. Merck & Co. v. Reynolds, 543 F.3d 150 (3d Cir. 2008), cert. granted, 77 U.S.L.W. 3437 (U.S. May 26, 2009) (No. 08-905). The appeal at issue arises out of a shareholder class action alleging that Merck, a pharmaceutical manufacturer, misrepresented the risks associated with its pain medication, Vioxx.
It is well-known that securities fraud plaintiffs must bring their claims either two years after discovery of the facts constituting the violation or five years after the violation, whichever comes earlier. 28 U.S.C. § 1658(b). What is less clear, however, is when plaintiffs will be deemed to have notice of the facts giving rise to their claims such that the two year statute of limitations will be triggered. Under the doctrine of “inquiry notice,” plaintiffs will be deemed to have discovered the facts underlying their claim when there were sufficient “storm warnings” to place them on notice of culpable activity.
In the Merck case, the district court dismissed the action, holding that plaintiffs were on inquiry notice of their potential claims more than two years before they filed suit. Specifically, the district court found that a New York Times article discussing potential health risks of Vioxx provided sufficient storm warnings to trigger the limitations period. On appeal, the Third Circuit reversed, holding that the district court prematurely applied the statute of limitations because none of the so-called “storm warnings” indicated that Merck believed Vioxx caused heart attack or stroke - i.e., that it acted with requisite fraudulent mental state or “scienter.” Merck, 543 F.3d at 172.
The Supreme Court granted certiorari on the following question:
Did the Third Circuit err in holding, in accord with the Ninth Circuit but in contrast to nine other Courts of Appeals, that under the “inquiry notice” standard applicable to federal securities fraud claims, the statute of limitations does not begin to run until an investor receives evidence of scienter without the benefit of any investigation?
As indicated by the question presented, the Third Circuit’s decision creates more disparity among the circuits regarding the application of the inquiry notice doctrine. Some circuits hold that the statute of limitations begins to run from the moment there are storm warnings of possible fraud that would prompt a reasonable investor to investigate whether he has been defrauded. See, e.g., GO Computer, Inc. v. Microsoft Corp., 508
F.3d 170, 177 (4th Cir 2007); Franze v. Equitable Assurance, 296 F.3d 1250, 1254-55 (11th Cir. 2002). Other circuits, however, hold that the statute of limitations does not run until the date on which plaintiffs, after the storm warnings and through the exercise of reasonable diligence, could have discovered the fraud. See, e.g., New Eng. Health Care Employees Pension Fund v. Ernst & Young LLP, 336 F.3d 495, 501 (6th Cir. 2003); Young v. Lepone, 305 F.3d 1, 8-10 (1st Cir. 2002); Sterlin v. Biomune Sys., 154 F.3d 1191, 1200-01 (10th Cir. 1998). The Third Circuit in Merck joined the Ninth Circuit in applying a third, more lenient approach, which holds that no duty to investigate arises - and the statute of limitations does not begin to run - unless and until the plaintiff has specific evidence of one of the elements of its claims such as scienter. See Merck, 543 F.3d at 172; Betz v. Trainer Wortham & Co., 519 F.3d 863 (9th Cir. 2008).
Interestingly, both the Merck decision and the Ninth Circuit’s decision in Betz were before the Court on petitions for certiorari. Solicitor General Kagan, however, urged the Court to decline review of Betz and to grant review of Merck instead. The Supreme Court agreed and chose the Merck case as the appropriate vehicle to provide much needed clarity on the issue of when securities fraud plaintiffs are deemed to have inquiry notice of the facts underlying their claims.