When the Supreme Court decided Tellabs, Inc v. Makor Issues last June, holding that securities-fraud plaintiffs must plead facts giving rise to a “powerful or cogent” inference of scienter to survive a motion to dismiss under the Private Securities Litigation Reform Act, I argued on this Blog and at The Race to the Bottom that the case did little to change the law, characterizing it as a victory for shareholders.  I noted, however, that Tellabs would provide an excuse to judges predisposed to dismissing securities class actions, allowing courts to dispose of suits on the ground that the complaint did not give rise to an inference of scienter “powerful or cogent” enough for the judges’ tastes. 

The Seventh Circuit has now provided the first example of the “Tellabs Excuse” at work: Higginbotham v. Baxter International.  (Primary materials from the case can be found here.)  While I expected that the federal courts would rely on Tellabs as a frequent basis for securities-fraud dismissals, I didn’t expect judges to go so far as to invoke Tellabs to eliminate the use of confidential witnesses to meet the pleading standard for securities class actions.  Nonetheless, that is awfully close to what the Seventh Circuit has done.

Baxter is a fairly traditional securities-fraud suit, turning on whether the complaint adequately alleged scienter.  The case involved allegations of fraud in Baxter’s Brazilian subsidiary, including conduct that ultimately required the company to restate its financial results.  On the day the problem in Brazil was announced, Baxter’s shares fell by 4.6%. 

The Seventh Circuit panel included Chief Judge Easterbrook and Judges Posner and Ripple, and it was clear at oral argument that Chief Judge Easterbrook and Judge Posner were unimpressed by the complaint.  (You can listen to the oral argument here.) 

For example, Chief Judge Easterbrook commented to plaintiffs’ counsel: “You’ve got a case where there are, there’s demonstrable, lying.  You choose not to sue about the demonstrable lies but to sue about things that it’s almost impossible to show scienter about and no one had any reason to lie about.  It’s almost as if you set out to find the one kind of suit that would be blocked by the PSLRA and bring that.”  Judge Posner, too, was clearly unmoved by the complaint.  At one point he described one of the plaintiffs’ arguments as “ridiculous.”  And the panel opinion went even further, applying Tellabs virtually to exclude the use of confidential witnesses in securities suits.

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