While the Supreme Court’s decisions in Bell Atlantic v. Twombly and Ashcroft v. Iqbal have left Rule 8 pleading in a state of flux and uncertainty, it hasn’t been obvious whether the “plausible on its face” standard of those cases will have much effect on securities cases governed by the already (expressly) heightened pleading requirements of the Private Securities Litigation Reform Act.  Kevin LaCroix of D & O Diary has a good discussion of this issue, including of last week’s McAdams v. McCord, in which the Eighth Circuit affirmed a dismissal for failure to satisfy the new plausibility requirement as to loss causation.  I recommend reading it in full if you’re interested in this issue.

He does draw a conclusion I don’t agree with, namely that by affirming without deciding whether the complaint satisfied the scienter pleading requirement of the PSLRA, the McAdams court implied “that Iqbal’s generalized pleading requirements must be considered analytically prior to the PSLRA’s more particularized requirements.”  That would probably be correct if the court had applied Twombly/Iqbal in analyzing the complaint’s scienter or misstatement allegations, because the PSLRA’s heightened standard applies to those elements.  By applying it to loss causation, though — to which the PSLRA standard does not apply (rule on Spindle) — I think the court simply asserted its authority to affirm on any legally sufficient basis and to pass on other issues.  (Whether there is any special specificity required in pleading loss causation is an issue as to which there has been some disagreement.)  Although there are issues that courts feel they ought to address first (e.g., jursidiction) or avoid if possible (e.g., undecided constitutional issues), the court here faced no such special-priority issues, just a choice among elements to analyze.  (It is notable that the court chose to decide the loss causation issue, because the district court did not reach that issue.  Assuming that loss causation was argued on appeal, though, it’s pretty much your basic affirmed-on-other-grounds.)

I also have a quibble with the rhetorical question that Mr. LaCroix, who supports the plausibility standard, poses to the standard’s opponents:  “are they suggesting that complaints that are not facially plausible should be allowed to go forward?” he asks.  The right question, I think, is whether enough meritorious cases appear implausible to judges prior to discovery to justify letting a case move forward if the complaint satisfies a notice pleading standard.  Reasonable people can disagree.

Those interested in the Twombly/Iqbal pleading standard in general might want to check out several posts and columns on the subject by Mike Dorf, who opposes the standard (and to whose blog I sometimes contribute).  You can find links from his post on strategies for overruling it.

In February I discussed the Ninth Circuit’s curious new two-step method for analyzing scienter under the Private Securities Litigation Reform Act of 1995, which the court believed had been mandated by the Supreme Court in Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 127 S. Ct. 2499 (2007). It turns out that another court of appeals reads the same Supreme Court decision to require not two, but three steps.

The Fifth Circuit adopted its competing “three step approach” last July in Indiana Elec. Workers’ Pension Trust Fund IBEW v. Shaw Group, Inc., 537 F.3d 527 (5th Cir. 2008), and reaffirmed it last week in Flaherty & Crumrine Preferred Income Fund, Inc. v. TXU Corp.:

“First, the allegations must, as in federal pleadings generally, be taken as true. Second, courts may consider documents incorporated in the complaint by reference and matters subject to judicial notice. The facts must be evaluated collectively, not in isolation, to determine whether a strong inference of scienter has been pled. Third, a court must take into account plausible inferences opposing as well as supporting a strong inference of scienter. The inference of scienter must ultimately be ‘cogent and compelling,’ not merely ‘reasonable’ or ‘permissible.’”

— F.3d —, 2009 WL 930055, at *5 (5th Cir. Apr. 8, 2009) (quoting Ind. Elec., 537 F.3d at 533 (citing Tellabs, 127 S.Ct. at 2509-10)).

It’s always nice to be able to break a difficult task down into steps.  If you’re writing for a federal circuit court, it would be terrific if a recent Supreme Court decision already broke it down for you.  Tellabs, perhaps unfortunately, didn’t do that.  Rather, it “establish[ed]” three “prescriptions”:  1) “accept all factual allegations in the complaint as true“; 2) “consider the complaint in its entirety, as well as other sources courts ordinarily examine when ruling on Rule 12(b)(6) motions to dismiss”; and 3) when determining whether the facts give rise to a strong inference of scienter, “take into account plausible opposing inferences.” Tellabs, 127 S.Ct. at 2509-10.  The first of these prescriptions must be applied concurrently with, not prior to, the second, so they certainly aren’t “steps.”

The Fifth Circuit version leaves out the first part of prescription number two—”consider the complaint”—thus allowing a possible sequential interpretation:  look at allegations, look at documents, draw inferences.  Even if that reading were possible, though, it could as well apply to any area of federal civil litigation.    Everything special to the PSLRA pleading standard would be contained within a subset of the third step.  (Indeed, the first two prescriptions of Tellabs just affirm that, as to those two issues, the PSLRA did not alter the law.)

Judge Benavides, who authored last week’s decision in Flaherty & Crumrine, seemed a bit half-hearted about the three step approach, pointing out that the circuit had “recently interpreted Tellabs” this way—i.e., don’t blame me—and never mentioning any of the steps after their first dutiful recitation.  Like the Ninth Circuit’s “dual method, ” it’s not clear whether this approach has the potential to affect outcomes of cases, or if so, how.  If not, it’s not likely to be undone by an en banc court or by the Supreme Court, even through there is, in some sense, a circuit split.  If it can’t affect outcomes, perhaps it will be viewed as non-binding precedent by subsequent panels and will fade away.