The Securities Act of 1933, 15 U.S.C. § 77a et seq., provides for civil liability when a registration statement or prospectus contains material misrepresentations or omissions. Section 13 of the Securities Act, 15 U.S.C. § 77m, requires Securities Act claims to be brought “within one year after the discovery of the untrue statement or the omission, or after such discovery should have been made by the exercise of reasonable diligence.” In a recent decision, Pension Trust Fund for Operating Engineers v. Mortgage Asset Securitization Transactions, Inc. et al., No. 12-3454 (Sept. 17, 2013), the United States Court of Appeals for the Third Circuit reached two issues of first impression within the Third Circuit. The Court’s resolution of those two issues likely will make it more difficult for a defendant successfully to move to dismiss Securities Act claims based upon the running of the statute of limitations or to establish a statute of limitations defense.
First, the Court held that a Securities Act plaintiff need not affirmatively plead compliance with Section 13’s one-year statute of limitations. The Court recognized that three courts of appeals have held that a Securities Act plaintiff must plead compliance with Section 13. See Davidson v. Wilson, 973 F.2d 1391 (8th Cir. 1992); Anixter v. Home-Stake Prod. Co., 939 F.2d 1420 (10th Cir. 1991), vacated on other grounds by Dennler v. Trippet, 503 U.S. 978 (1992); Cook v. Avien, Inc., 573 F.2d 685 (1st Cit. 1978). The Third Circuit, however, broke with these older decisions, noting that three other courts of appeals more recently have held that a plaintiff need not plead compliance with the statute of limitations applicable to claims brought under the Securities Exchange Act of 1934. See Johnson v. Aljian, 490 F.3d 778 (9th Cir. 2007); La Grasta v. First Union Sec., Inc., 358 F.3d 840 (11th Cir. 2004), abrogated on other grounds by Bell Atl. Corp. v. Twombly, 550 U.S. 544 (2007); Tregenza v. Great Am. Commc’ns Co., 12 F.3d 717 (7th Cir. 1993), abrogated on other grounds by Merck & Co. v. Reynolds, 130 S. Ct. 1784 (2010). The Third Circuit agreed with the reasoning of these Exchange Act cases, concluding that, because the statute of limitations is an affirmative defense, the burden of establishing its applicability rests with the defendant. Accordingly, requiring a plaintiff to plead compliance with Section 13 would improperly shift the burden to the plaintiff to negate the applicability of an affirmative defense.
Second, the Court held that Section 13 establishes a “discovery” standard for evaluating the timeliness of Securities Act claims, rather than an “inquiry notice” standard. Under an inquiry notice standard, statutes of limitations start to run when a plaintiff learns facts that would lead a reasonably diligent person to “inquire,” or investigate, further. Under a discovery standard, by contrast, statutes of limitations start to run when the plaintiff discovers, or when a reasonably diligent plaintiff would have discovered, the facts constituting the violation of law. See Merck, 130 S.Ct. at 1793. The key difference between the two standards is that facts that would lead a reasonably diligent plaintiff to investigate further are not necessarily the same facts that would enable a reasonably diligent plaintiff to discover a violation. As such, the statute of limitations may begin to run later under a discovery standard than under an inquiry notice standard.
In adopting the discovery standard for Securities Act claims, the Third Circuit followed the reasoning of the Supreme Court in Merck. In Merck, the Supreme Court held that a discovery standard applied to the Exchange Act’s statute of limitations. Id. at 1797-98. In reaching its conclusion, the Supreme Court relied primarily on the text of the Exchange Act’s statute of limitations, which provides that a claim must be brought within two years “after the discovery of the facts constituting the violation.” 28 U.S.C. § 1658 (b)(1). The Supreme Court explained that the “facts constituting the violation” are different than the facts that would “put a plaintiff on ‘inquiry notice.’” Id. at 1798. Accordingly, the Supreme Court rejected the application of an inquiry notice standard.
Based on Merck, the Third Circuit concluded that the discovery standard should apply to the Securities Act’s statute of limitations in Section 13. The Court reasoned that, as with the Exchange Act’s statute of limitations, Section 13 uses the word “discovery” – a “term of art representing the discovery rule.” Moreover, the Third Circuit noted that the Exchange Act’s statute of limitations is “based on” the statute of limitations set forth in Section 13 and that the Supreme Court had cited numerous Securities Act cases when deciding Merck. As such, the standard under the Exchange Act and Section 13 should be identical.
Turning to the facts of the case before it, the Third Circuit ultimately concluded that the particular claims in Pension Trust Fund were untimely, as a reasonably diligent plaintiff would have discovered facts constituting the Securities Act violations more than one year before the complaint had been filed. But while the defendants in that particular case can rest easy, future Securities Act defendants in the Third Circuit now will face a more burdensome standard when trying to establish that the claims against them are untimely. They also can no longer seek dismissal based on the plaintiff’s failure to plead compliance with Section 13. Pension Trust Fund thus makes the Third Circuit a more dangerous place for defendants embroiled in Securities Act lawsuits, and may attract more such lawsuits to the circuit.