Pleading requirements are often critical in securities litigation. The PSLRA, for example, employs stringent pleading requirements in conjunction with other requirements to help eliminate frivolous complaints. While many thought that Dura resolved the question of whether loss causation could be pleaded under Rule 8(a) or the fraud particularity requirements of Rule 9(b), a split appears to be emerging among the circuit courts on this question.

In Dura, the court discussed pleading loss causation under Rule 8(a) without specifically adopting that pleading standard. As the court stated: “we assume, at least for argument’s sake, that neither the Rules nor the securities statutes impose any special further requirement in respect to the pleading of proximate causation or economic loss. But, even so, the ‘short and plain statement’ must provide the defendant with ‘fair notice of what the plaintiff’s claim is and the grounds upon which it rests,’ quoting Conley v. Gibson, 355 U.S. 41, 47 (1957). Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336, 346 (2005).

During the arguments on Dura, different views were expressed as to the applicable pleading requirements. The Solicitor General contended that Rule 9(b) and its fraud particularity requirements should apply. Brief for the United States as Amicus Curie, supporting Petitioner, Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005) (No. 03-932), 2004 WL 2069564, at *14-15. The solicitor’s position clearly was not adopted by the court.

On the other hand, it is unclear if the comments of Justice Ginsburg were accepted by the court. During argument, the Justice stated “I thought you pointed to the 9(b) pleading rule because fraud must be pleaded with particularity, but causation does not, under the rules and not under the statute.” Dura Pharmaceuticals, Inc. v. Broudo, (No. 03-932), 2005 U.S. TRANS. LEX 4, at *19 (Jan. 12, 2005).

Following the Supreme Court’s decision in Dura, the circuit courts have adopted two and perhaps three positions on pleading loss causation. First, some courts have held that the requirements of Federal Civil Rule 8(a) govern. The Second Circuit reached this conclusion in ATSI Communications, Inc. v. The Shaar Fund, Ltd., 493 F.3d 87 (2nd Cir. 2007). There, the court applied its interpretation of the Supreme Court’s decision in Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007). In that case, the Supreme Court concluded that Rule 8(a) requires a complaint to have “plausibility” — that is, facts must be plead demonstrating that plaintiff has a plausible cause of action. This, according to the court, has always been the meaning of Conley v. Gibson when the case is properly read. Interestingly, the court cited Dura as the source of its plausibility requirement noting “[w]e alluded to the practical significance of Rule 8 entitlement requirements in Dura . . .” when it discussed the necessity for loss causation as way to help eliminate baseless claims. The court supported this statement with a citation to the discussion of the in terrorem effect of securities litigation in Blue Chip Stamps v. Manor Drug Stores, 411 U.S. 723 (1975).

In an ironic twist, when applying the Twombly standard, the ATSI Communications court cited the circuit’s prior decision in Iqbal v. Hasty, 490 F.3d 143, 157 (2nd Cir. 2007). That decision interpreted Twombly to employ a “flexible plausibility” standard. While the Supreme Court reversed Iqbal in Ashcroft v. Iqbal, 127 S.Ct. 1937 (2009) concluding that the standard used by the circuit was insufficient under Twombly, it seems clear that the second circuit is following the Rule 8(a) pleading standards for Dura.

The fourth and seventh circuits however require that loss causation be pleaded under Rule 9(b). The fourth circuit evolved this position beginning with Teachers’ Retirement System of L.A. v. Hunter, 477 F.3d 162 (4th Cir. 2007). There, the court noted that “Neither the PSLRA nor the Supreme Court has established whether loss causation is a sufficient part of an ‘averment of fraud’ to fall within the requirements of . . . Rule 9(b). A strong case can be made that . . .” it does. The court reiterated this view in In re Mutual Funds Invest. Litig., 566 F.3d 111, 119 (4th Cir. 2009) and went on to hold that, while the pleading requirements of the PSLRA do not apply to the element, Rule 9(b) is applicable.

The seventh circuit appears to concur. In Tricontinental Industries, LLC v. PriceWaterhouseCoopers, LLC, 475 F.3d 824 (7th Cir. 2007), the court specifically stated that Rule 9(b) applied to the pleading loss causation for a common law fraud claim. When discussing that element as part of the federal securities claim however, the court did not specifically state what pleading standard should be used. The opinion suggests that Rule 9(b) was used although it is less than clear.

Finally, the ninth circuit appears to have adopted a “not implausible” standard for pleading Dura loss causation in In re: Gilead Sciences Sec. Litig., 536 F.3d 1049 (9th Cir. 2008), cert. denied, 129 S.Ct. 1993 (2009). There, the court reversed the dismissal of a securities class action complaint where there was a significant time delay between the events plaintiffs claimed established loss causation. In reaching its conclusion, the ninth circuit chided the district court for expressing skepticism about the plausibility of plaintiffs’ claims, noting that “the district court ruling on a motion to dismiss is not sitting as a trier of fact. It is true that the court need not accept as true conclusory allegations nor make unwarranted deductions or unreasonable inference . . . But so long as the plaintiff alleges facts to support a theory that is not facially implausible, the court’s skepticism is best saved for later stages of the proceedings . . .” The court went on to note that loss causation is more important at trial than at the pleading stage.

Next: The final segment of the series — Analysis and Conclusions

The FCPA continues to be a key area of focus for the SEC with the filing of a settled administrative proceeding, In the Matter of Avery Dennison Corporation, File No. 3-13564 (Filed July 29, 2009); see also SEC v. Avery Dennison Corp., Civil Action No. CV 09-5493 (C.D. Cal. Filed July 29, 2009). This proceeding, based on a series of alleged FCPA violations, concerns Avery (China) Co. Ltd., an indirect subsidiary of California multinational, Avery Dennison Corporation. As with many FCPA cases, Avery discovered the violations, conducted an internal investigation, and self-reported to the Commission.

The Order for Proceedings is based on a series of payments and promises of payments by Avery China’s Reflective Division. That division sold materials typically used in printing, road signs and emergency vehicle marking. In China, the Ministry of Public Security requires that all such products meet the requirements of an authorized government entity such as the Traffic Management Research Institute, known as the Wuxi Institute. The Reflective Division of Avery China sought to obtain business from this Institute. The series of payments and promises involving the Institute and others are:

• In January 2004, an Avery China sales manager went to a meeting with officials from the Institute and bought each a pair of shoes with a combined value of $500.

• In May 2004, the subsidiary hired a former Wuxi Institute official as a sales manager because his wife was still employed at the Institute and was in charge of two projects the company wanted to pursue.

• In August 2004, Avery China obtained two contracts to install new graphics on police cars through the Institute. The Reflectives China Sales Manager agreed that the total sales price of the contracts would be inflated so the additional charges could be paid back to the Institute as a “consulting fee.” Total sales under these contracts were about $677,000, with profits of about $363,000. The kickback payments, which would have been about $41,000, were discovered by another division and halted prior to payment.

• In December 2002, a Reflectives Division salesman hosted a sightseeing trip for five government officials. Two reimbursement requests were used to conceal the expenses for the trip.

• In August 2004, the Reflectives China National Manager approved a kickback to another state owned enterprise to secure a sales contract. Total sales under the contract were about $106,000, with profits of about $61,000. The $2,415 kickback was not paid after it was discovered by company officials.

• In late 2005, during a sales conference hosted by Avery China at a famous tourist destination, the Reflectives China National Sales Manager paid for sightseeing trips for at least four government officials.

• In August 2005, after self-reporting to the SEC, the company discovered two additional instances of possible improper payments by acquired companies.

To resolve the matter, the company agreed to cease and desist order from committing or causing any violations and future violations of Sections 13(b)(2)(A) and (B) of the Exchange Act. The company also agreed to pay disgorgement of about $273,000 and prejudgment interest. In the related civil action the company agreed to a penalty of $200,000. See also Lit. Rel. 21156 (Jul. 29, 2009).