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The Private Securities Litigation Reform Act (PSLRA) requires plaintiffs to meet a heightened pleading standard before they can participate in discovery. Congress passed the PSLRA because many plaintiffs filed frivolous securities fraud lawsuits based on minimal facts, and then used the discovery process to manufacture evidence establishing their claims. See Novak v. Kasaks, 216 F.3d 300, 310 (2d Cir. 2000) (“Congress plainly sought to impose a stricter nationwide pleading standard and did so.”). Plaintiffs, in effect, weaponized securities laws. Winer Family Tr. v. Queen, 503 F.3d 319, 326 (3d Cir. 2007) (“One of the purposes of the PSLRA’s heightened pleading requirements is to limit abusive securities class-action suits.”). PSLRA plaintiffs knew they could commence lawsuits with scant facts and subsequently obtain information giving the impression of securities fraud. Id. PSLRA plaintiffs also knew the act of suing was usually enough to force the defendants into settlement because PSLRA lawsuits are extremely expensive and onerous to defend. Id. As a result, Congress required a private securities law plaintiff to present evidence of securities fraud before the parties engaged in pretrial discovery. 15 U.S.C.A. § 78u-4.  Peter Mavrick is a Fort Lauderdale business litigation attorney.  The Mavrick Law Firm represents businesses and their owners in breach of contract litigation and related claims of fraud, non-compete agreement litigation, trade secret litigation, trademark infringement litigation, employment law, and other legal disputes in federal and state courts and in arbitration.

A PSLRA plaintiff must allege facts demonstrating the existence of the following elements to be entitled to discovery: “(1) a material misrepresentation (or omission), (2) scienter, i.e., a wrongful state of mind, (3) a connection with the purchase or sale of a security, (4) reliance, often referred to in cases involving public securities markets (fraud-on-the-market cases) as ‘transaction causation,’ (5) economic loss, and (6) ‘loss causation,’ i.e., a causal connection between the material misrepresentation and the loss.” Dura Pharm., Inc. v. Broudo, 544 U.S. 336 (2005) (internal citations omitted and emphasis removed). For allegations regarding material misrepresentations or omissions, the plaintiff must “specify each statement alleged to have been misleading, the reason… why the statement is misleading” and all facts on which any belief was formed (assuming allegations were based on information and belief). 15 U.S.C.A. § 78u-4. And for the scienter component, the plaintiff must particularly allege the “facts giving rise to a strong inference that the defendant acted with the required state of mind.” Id. The scienter allegations must be “cogent” and “compelling” “in light of other explanations.” Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (2007).

Discovery is automatically stayed in PSLRA cases unless, and until, the plaintiff alleges the requisite facts to satisfy the PSLRA’s heightened pleading standard. See In re Equifax Inc. Sec. Litig., 2018 WL 3023278 (N.D. Ga. June 18, 2018). The stay is mandated by Congressional statute. 15 U.S.C.A. § 78u-4 (“All discovery and other proceedings shall be stayed during the pendency of any motion to dismiss…”). However, an exception to the discovery stay exists when a party demonstrates discovery is necessary to preserve evidence or to prevent undue prejudice. Id. Undue prejudice occurs when (1) the plaintiffs would be unable to make informed decisions about their litigation strategy due to a rapidly shifting landscape because they are the only major interested party without documents forming the core of their proceedings, In re Bank of Am. Corp. Sec., Derivative, & Employment Ret. Income Sec. Act (ERISA) Litig., 2009 WL 4796169 (S.D.N.Y. Nov. 16, 2009), or (2) the plaintiff lacks access to documents that were previously produced in other lawsuits or to the government. New York State Teachers’ Ret. Sys. v. Gen. Motors Co., 2015 WL 1565462 (E.D. Mich. Apr. 8, 2015). The facts giving rise to both scenarios generally arise infrequently. Therefore, PSLRA defendants usually should not fear engaging in expensive discovery until the plaintiffs satisfy the PSLRA’s heightened pleading standard.

Peter Mavrick is a Fort Lauderdale business litigation lawyer, and represents clients in Miami, Boca Raton, and Palm Beach. This article does not serve as a substitute for legal advice tailored to a particular situation.

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