Fact Stock Price did not React to “Storm Warnings” Contradicted District Court Finding that Class Action Plaintiffs were on Inquiry Notice of Class Action Claims so as to Commence Statute of Limitations Third Circuit Holds
“[Plaintiffs], purchasers of Merck & Co., Inc. stock, filed the first of several class action securities fraud complaints on November 6, 2003, alleging that the company and certain of its officers and directors…misrepresented the safety profile and commercial viability of Vioxx, a pain reliever that was withdrawn from the market in September 2004 due to safety concerns.” In re Merck & Co., Inc. Securities, Derivative & “ERISA” Litig., 543 F.3d 150 (3d Cir. 2008) [Slip Opn., at 3]. The class action complaint alleged that defendants violated Sections 11, 12(a)(2), and 15 of the Securities Act of 1933, Sections 10(b), 20(a), and 20A of the Securities Exchange Act of 1934, and Rule 10b-5 by “materially misrepresent[ing] the safety and commercial viability of VIOXX,” id., at 15. Defense attorneys moved to dismiss the class action claims on the ground that they were barred by the statute of limitations, and that the allegations in the class action complaint failed to meet the heightened pleading requirements under the Private Securities Litigation Reform Act of 1995 (PSLRA); the district court granted the motion to dismiss on the first ground, and did not reach the PSLRA argument. Id., at 15-16 and n.8. Plaintiffs appealed, challenging the district court’s finding that “there was sufficient public information prior to November 6, 2001 to trigger Appellants’ duty to investigate the alleged fraud.” Id. The Third Circuit reversed.
We do not discuss the Circuit Court’s 36-page majority opinion in detail, and we do not here summarize the history of Vioxx, leading up to the first class action lawsuit in May 2001, see In re Merck, at 4-9. The FDA sent Merck a warning letter on September 21, 2001, regarding the “marketing and promotion” of Vioxx and stating in part “that Merck’s ‘promotional activities and materials’ for the marketing of Vioxx were ‘false, lacking in fair balance, or otherwise misleading in violation of the Federal Food, Drug, and Cosmetic Act (the Act) and applicable regulations.’” Id., at 9. The FDA’s letter “received widespread coverage by the media and securities analysts,” id., at 10; nonetheless, securities analysts “all maintained their ratings for Merck stock at ‘buy’ or ‘hold’ and/or continued to project increased future revenues for Vioxx,” id., at 11-12. Merck’s stock price did decline in the days immediately following the FDA warning letter, it quickly rebounded and by October 1, 2001 the stock price closed higher than before the announcement of the FDA warning letter a week before. Id., at 12. More product liability class action lawsuits were filed against Merck on September 27, 2001, see id., and the New York Times reported on the health risks of Vioxx in early October 2001, see id., at 12-13. Cutting to the chase, Merck withdrew Vioxx from the market in September 2004, and securities analysts began recommending that Merck stock be sold. See id., at 14-15.
The Third Circuit explained that “[t]he first class action securities complaint initiating this lawsuit was filed on November 6, 2003,” and that ultimately “numerous nationwide class actions were consolidated” leading, eventually, to the filing of a fourth amended consolidated class action complaint. In re Merck, at 15. Defense attorneys moved to dismiss the class action complaint on the grounds that plaintiffs were on “inquiry notice” of the alleged fraud underlying the class action claims for more than two years, so plaintiffs’ class action claims were time-barred. Id., at 3-4. The district court agreed and dismissed the class action complaint, id., at 4. On appeal, plaintiffs argued that the district court erroneously concluded that they were on inquiry notice because it “mischaracterized the gravamen of their fraud allegations,” id., at 23. The Third Circuit began its analysis by noting that it has “repeatedly stated that the fundamental concern of our analysis is whether plaintiffs were ‘“on inquiry notice of the basis for [their] claims”’ prior to the relevant date triggering the statute of limitations.” Id., at 24 (citation omitted). Accordingly, its task was to “carefully scrutinize the District Court’s characterization of the basis for [plaintiffs’] claims and consider how this characterization affected the Court’s inquiry notice analysis.” Id.
The Third Circuit summarized the district court’s reasoning as follows: “Because the District Court believed that ‘[t]he wrongdoing charged in the [FDA] Warning Letter is . . . the same alleged misconduct on which the securities fraud claims in this case are predicated,’ the Court asserted that it ‘might arguably conclude that the FDA Warning Letter alone excited storm warnings sufficient to put Plaintiffs on inquiry notice of their claims against Merck,’ but it decided that it ‘need not make that conclusion, because the FDA Warning Letter was not issued in a vacuum of information.’… The Court then took notice of the JAMA article, the lawsuits filed against Merck in 2001, and various articles discussing competing explanations for the results of the VIGOR study…. The Court reasoned that the New York Times article following the FDA warning letter was especially probative because Scolnick ’admitted that Merck recognized the possibility that VIOXX may increase a user’s risk of heart attack. It therefore represents a significant departure from Merck’s company line as to the explanation for the VIGOR study results.’… The Court then rejected Appellants’ argument that positive information issued by Merck during this period dissipated any storm warnings….” In re Merck, at 27 (citations omitted).
In part, plaintiffs argued that the stock price manifested that they were not on inquiry notice. In re Merck , at 27-28. Defense attorneys argued that “stock price movement is irrelevant to the inquiry notice analysis,” id., at 28. The Third Circuit disagreed, explaining at page 28: “Because information that is material to reasonable investors is immediately incorporated into the stock price, the effect of a purported storm warning on the market, while insufficient on its own to compel the conclusion that inquiry notice has not been triggered, is, contrary to Merck’s position, relevant to our inquiry.” And based on the Court’s careful analysis, see id., at 24-34, the Circuit Court concluded that district court erred and “acted prematurely in finding as a matter of law that [plaintiffs] were on inquiry notice of the alleged fraud before October 9, 2001.” Id., at 35. Accordingly, it reversed the judgment of the district court dismissing the class action complaint. Id., at 36.
NOTE: The decision was not unanimous; one circuit judge concluded that there was indeed sufficient information to put plaintiffs on inquiry notice so as to time bar the class action claims. See In re Merck, at 37-49.