Supreme Court Establishes Standard For Reviewing “Strong Inference” Of Scienter In Securities Fraud Cases

Profession:Fried Frank Harris Shriver & Jacobson

Article by William G. McGuinness, Douglas H. Flaum, Gregg L. Weiner, Stephanie J. Goldstein, David B. Hennes, Israel David and Michael B. de Leeuw

The U.S. Supreme Court recently issued its widely-anticipated decision in Tellabs, Inc. v. Makor Issues & Rights, Ltd., interpreting for the first time the heightened pleading requirements of the Private Securities Litigation Reform Act of 1995 (the "PSLRA"). In keeping with the Supreme Court's recent decisions, today's decision underscores the Court's recognition that securities fraud actions "if not adequately contained, can be employed abusively to impose substantial costs on companies and individuals whose conduct conforms to the law" while "preserving investors' ability to recover on meritorious claims."

The specific question addressed by the Court in Tellabs is the extent to which courts can consider so-called "innocent inferences" in determining whether a securities fraud complaint adequately alleges facts giving rise to a "strong inference" of scienter or fraudulent intent, as required by the PSLRA. The Supreme Court held that a court must consider all inferences, including innocent inferences, and that an inference of scienter must be "at least as likely" as any other plausible inference:

[A] court must consider plausible nonculpable explanations for the defendant's conduct, as well as inferences favoring the plaintiff Ö Yet, the inference of scienter must be more than merely "reasonable" or permissible" ó it must be cogent and compelling, thus strong in light of other explanations. A complaint will survive, we hold, only if a reasonable person would deem the inference of scienter cogent and at least as compelling as any opposing inference one could draw from the facts alleged.


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