Reading the Twombly Tea Leaves
Any day now, the Supreme Court’s decision in Twombly will come down. Here is my attempt at reading the tea leaves: how will the Supreme Court rule?
At issue in the case is the standard that courts should apply to Rule 12(b)(6) motions to dismiss actions brought under Seciton 1 Sherman Act for failure to state a claim. Specifically, what does it take to plead a conspiracy in (unreasonable) restraint of trade? The defendants in the case argued that the plaintiffs had not pleaded sufficient facts from which a conspiracy could be inferred.
The case is about the telecommunications industry, specifically the ILECs (incumbent local exchange carriers), who emerged from the AT&T breakup of the ’80s and the subsequent deregulation. Under the Telecommunications Act of 1996, the market for local and long-distance telephone services was to be opened for competition. To achieve this competition, the ILECs are required to sell access to their network to competing local exchange carriers (or CLECs), who can buy local telephone services from the ILECs at wholesale rates, can lease elements of the ILEC’s network, or can interconnect to their own networks. The Twombly complaint alleges that ILECs have refused to provide network services to aspiring CLECs, and not only that: The ILECs are accused of conspiring to keep competition out. Plaintiffs also allege parallel conduct in not competing (as CLECs) in each other’s territories, “which would be anomalous in the absence of an agreement not to compete.” And one of the ILEC execs stated that competing as CLECs might be a good way to “make a quick buck, but that doesn’t make it right.”
The S.D.N.Y. (Judge Lynch) granted the motion to dismiss. The simple allegation of parallel conduct is not enough, the district court reasoned, a plaintiff must allege so-called plus factors to state a claim under Section 1, for two reasons: First, parallel conduct, even consciously parallel conduct may be perfectly legal and without pleading facts, the complaint won’t distinguish between the permissible kinds of parallelism and the pernicious kinds. Second, without plus-factors defendants don’t receive fair notice of the plaintiff’s economic theory:
[A] plaintiffs factual and economic theory of a conspiracy is not evident from a conclusory allegation of conspiracy, and there is simply no way to defend against such a claim without having some idea of how and why the defendants are alleged to have conspired.” 313 F. Supp. at 181.
That may be worded a bit strongly, but the point is well-taken that naked allegations of conspiracy, mere restatements of the statutory text do not state a claim. The problem with the district court’s ruling, of course, is that plus factors are a creature of summary-judgment cases, not 12(b)(6) cases. And the Second Circuit (Judge Sack) doesn’t appreciate it when district courts
… occasionally elide[] the distinction between the standard applicable to Rule 12(b)(6) and Rule 56 motions on the basis of a well-founded concern that to do otherwise would be to condemn defendants to potentially limitless ‘fishing expeditions’ — discovery pursued just ‘in case anything turns up’ — in hopes, perhaps, of a favorable settlement in any event. 425 F. 3d at 115.
The Second Circuit therefore overruled the district court and held that
[I]n a regime that contemplates the enforcement of the antitrust laws by private litigants, although litigation to summary judgment and beyond may place substantial financial and other burdens on the defendants, neither the Federal Rules nor the Supreme Court has placed on the plaintiffs the requirement that they plead with special particularity the details of the conspiracies whose existence they allege. … [A] balance is being struck here… If that balance is to be re-calibrated, however, it is Congress or the Supreme Court that must do so. 425 F. 3d at 116-17.
The Supreme Court granted cert, and a large number of amicus briefs were filed, all but two in support of the petitioners, that is, in favor of overruling the Second Circuit’s permissive interpretation of the required pleadings (the American Antitrust Institute and legal scholars argued in support of respondents, and the ABA’s amicus brief was in support of neither side). The Supreme Court heard oral argument in November.
Here are my thoughts on three possible outcomes. (I disregard the possibility that the Supreme Court will issue an opinion that is neither here nor there. We’ve seen it before (for example in Empagran): a decision formulating different standards on page 10 and on page 30, which will be difficult to reconcile—but will provide endless material for law review articles).
First, I don’t think that it is likely that the Supreme Court will embrace the District Court’s ruling that plus factors must be pleaded in the complaint to state a claim. While there may be some sense in such a rule, the Court will not be willing to blur the lines between summary-judgment standards and 12(b)(6) standards. In the oral argument, Justice Scalia asked some pointed questions to show that a pleading of parallel conduct, without plus factors, may be sufficient. The example Scalia gave was of nine companies that change their prices at the same hour of the same day, ten months in a row (page 20). The Court will not be willing to depart from precedent in both Swierkiewicz and Leatherman that only Congress should amend the Rules of Federal Civil Procedure, and that only Rule 9(b) requires particularized pleadings.
Second, the Court is unlikely to just endorse the Second Circuit’s holding. The Second Circuit’s opinion is poorly reasoned in that does not provide much guidance on where the line is to be drawn between a plain statement of the claim and the insufficient recitation of the statutory language of Section 1. Although the Second Circuit speaks of balancing, it’s hard to see how much farther the scales could tip in antitrust plaintiffs’ favor.
The Supreme Court will at least reformulate the rule that naked allegations are insufficient, and that under Rule 8(a) the standard is that there must be “no set of facts” under which a claim is stated. For antitrust conspiracies, there is a strong argument (advanced by petitioners and several amicus briefs in support) that “no set of facts” references economic plausibility; put differently, an allegation of parallel conduct plus an economically-nonsensical conspiracy is insufficient to state a claim under Section 1. The Supreme Court will not go that far, however, because even an economically-nonsensical conspiracy that falls into a recognized category of per-se illegal conduct is obviously a violation of Section 1; horizontal price fixing is illegal even if it (arguably) makes no sense in the particular circumstances to fix prices. For this reason, I expect to see three categories of pleadings emerge. The first is one where parallel conduct is in itself so suspicious that it states the claim, as in Scalia’s example. The second category is the allegation of facts relating to the formation or maintenance of the conspiracy: who participated in the conspiracy, where were conspiratorial meetings held, and when (the plaintiffs in Twombly only pleaded that the alleged conspirators had ample opportunity to meet and conspire). In such an instance, the courts will not be required to ask about the plausibility of a conspiracy. In the third category of cases, the Supreme Court will require more than a naked allegation of conspiracy, but less than plus factors, which are meant to show that the alleged parallel conduct “tends to exclude the possibility of normal competitive behavior.” If such a pleading were required to survive 12(b)(6), the district courts would find themselves embroiled in economic theories before the facts of the case had been sufficiently developed, a result the Supreme Court will shy away from. What is left then, is that complaints must allege how the conspiracy was not normal competitive behavior and what normal competition would have looked like but for the conspiracy.
Such a ruling would seem far from satisfying because it would still permit formulaic and in a sense meaningless pleadings of conspiracy—sophisticated naked allegations, if you will. (Still a good thing when it comes to antitrust counts randomly tacked onto contract disputes). But it is as much room to maneuver as I believe the Supreme Court will consider itself to have, wedged between the notice-pleading rhetoric of Rule 8, the exceptional nature of Rule 9(b), Conley v. Gibson on the one hand and Swierkiewicz and Leatherman on the other.
The third possibility is my hope for how the Supreme Court will approach the issue, but it is perhaps not the most likely outcome. It seems that the problem in Twombly is not so much notice (the defendants know very well what the plaintiffs are suggesting the conspiracy was). The issue is the burden imposed by discovery on a claim that is hopelessly broad and awkward to defend. If the burden of discovery could be reduced, the fight over pleading standards would become less important. Justice Ginsburg (who insisted during oral argument that Rule 8 did not even mention the word “facts,” but merely required a plain statement of the claim) asked counsel for the respondents,
“if you strip away everything, it seems that you have a suspicion that there may have been a conspiracy and you want to use a discovery process to find out whether or not that’s true. Isn’t that essentially what this complaint is?” (p. 52).
This became the starting point for the most powerful part of Mr. Richards’ oral argument for the respondents. He argued that
“At the end of the road in the case, we don’t gain anything by pursuing a case for years in an unnecessarily burdensome way if we are not sure that it’s going to prevail. So we proposed in this case a phased discovery process, pursuant to which you would first have discovery into conspiracy, and then the Court would have an early opportunity for a Matsushita motion and we either carry the day at that point, or we don’t.” (p. 54)
While one may doubt that plaintiff’s counsel has no interest in imposing a burdensome process upon defendants (and thereby raising the strike value of the suit), the point is well-taken that all-or-nothing discovery raises the stakes for the 12(b)(6) motion unnecessarily. Especially in class actions the courts have been taking increasingly active and managerial roles. Forcing the issue through targeted and phased discovery would make the fight over the sufficiency of pleadings less bitter and it would be a way to stay true to the legislative intent behind Rule 8: to focus the parties’ and court’s attention on the substance of the claim rather than on pleading requirements.
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