The 10b-5 Daily

Securities class actions brought against drug development and medical device companies often are based on alleged misrepresentations related to the regulatory approval process.  Plaintiffs assert that the company’s officers must have known that the drug or device would not be approved, because the product was key to the company’s success.  But is that a plausible way of looking at how companies interact with their investors and regulators?

In Ngyuen v. Endologix, Inc., 962 F.3d 405 (9th Cir. 2020), the plaintiff alleged that Endologix misled its investors about whether the Food and Drug Administration (FDA) would approve Nellix, the company’s aneurysm sealing product.   In particular, Endologix supposedly knew the device had encountered development problems in Europe that would manifest again in U.S. clinical trials, which would in turn lead the FDA to deny pre-market approval.  The district court dismissed the complaint, finding that the plaintiff had failed to adequately plead a strong inference of scienter (i.e., fraudulent intent).

On appeal, the Ninth Circuit questioned whether the plaintiff’s version of events was the most likely.  As the court explained, the “plaintiff’s core theory—that the company invested in a U.S. clinical trial and made promising statements about FDA approval, yet knew from its experience in Europe that the FDA would eventually reject the product—has no basis in logic or common experience.”  The court found that was especially true given that the complaint did not allege the existence of suspicious insider stock sales.  Moreover, the complaint’s reliance on statements from a former Endologix officer could not fill this gap because the information attributable to the officer “lack[ed] any detail about the supposed device migration problems that Nellix encountered in the European channel.”  Without those details, the plaintiff could not establish “a strong inference that defendants’ later statements about FDA approval were intentionally false or made with deliberate recklessness.”

Holding: Dismissal affirmed.

香港线路梯子“[W]e are asked to accept the theory that defendants were promising FDA approval for a medical device application they knew was ‘unapprovable,’ misleading the market all the way up to the point that defendants were ‘unable to avoid the inevitable.’  The allegation does not resonate in common experience.  And the PSLRA neither allows nor requires us to check our disbelief at the door.”

Additional note: Interestingly, the confidential witness relied upon by the plaintiff apparently “submitted a declaration in the district court disavowing the plaintiff’s allegations, denying having ‘ma[de] many of the statements attributed to me,’ and stating that ‘most of the factual assertions attributed to me … are contrary to my understandings of fact and my opinions.'”  Neither the district court nor the appellate court, however, considered this declaration in rendering their decisions.

If a securities fraud claim is based on the nondisclosure of an illegal act, what is the plaintiff required to plead about the existence of that act?  In Gamm v. Sanderson Farms, Inc., 2019 WL 6704666 (2d Cir. Dec. 10, 2019), the plaintiffs alleged that Sanderson Farms, a poultry processing company, had failed to disclose an anti-competitive conspiracy to inflate the price of chicken by coordinating supply reductions and manipulating a chicken price index.  After a series of antitrust complaints were filed against Sanderson Farms and other chicken producers, the company’s stock price fell.

The district court dismissed the complaint based on the plaintiffs’ failure to adequately plead the existence of “a chicken supply reduction conspiracy with particularized facts.”  On appeal, the Second Circuit agreed.  To support their contention that Sanderson Farms’ financial disclosures were rendered misleading by the failure to disclose the anti-competitive conduct, the plaintiffs were required “to have alleged the basic elements of an underlying antitrust conspiracy” with particularity.   Those elements included “collusive conduct,” but the securities complaint provided “no facts alleging that Sanderson or its peers actually reduced supply, and that those reductions were the result of an agreement, or were even interrelated.”  Accordingly, the complaint was deficient.

Holding: Dismissal affirmed.

Quote of note: “A stock-issuing company like Sanderson cannot be required, whenever accused of illegal activity, to simultaneously defend itself in an accompanying securities fraud suit based on facts not alleged with the level of particularity required by the statute [PSLRA].  Such a reality would harm the company’s stock and contravene the purpose of the securities laws – to protect shareholders’ interests.”

While the Second Circuit and Ninth Circuit hear many securities cases and have a wealth of relevant case law, other circuits are still dealing with common issues that they have not yet had a chance to address.  In Carvelli v. Ocwen Financial Corp., 2019 WL 3819305 (11th Cir. Aug. 15, 2019), the Eleventh Circuit examined two issues of first impression: puffery and Item 303.

Puffery – Puffery is generalized, vague, non-quantifiable statements of corporate optimism.  Courts have found that these types of statements are immaterial as a matter of law and, as a result, cannot form the basis for a securities fraud claim.  In Carvelli, the court noted that while the Eleventh Circuit has not addressed the concept in the context of a securities case, “puffery itself—and in particular its relevance to the law—is nothing new.”  Indeed, it appears in nineteenth-century English case law, where courts found that “some advertisements—’mere puff’— clearly aren’t meant to be taken seriously.”

The Eleventh Circuit had little trouble finding that puffery can be a barrier to a securities fraud claim, but cautioned that it was not merely a matter of the court determining that the particular statement “smacks of puff.”  Instead, a “conclusion that a statement constitutes puffery doesn’t absolve the reviewing court of the duty to consider the possibility—however remote—that in context and in light of the ‘total mix’ of available information, a reasonable investor might nonetheless attach importance to the statement.”  In the instant case, however, “Ocwen’s proclamations that it was devoting ‘substantial resources’ to its problems, with ‘improved results,’ as well as its boasts that it was taking a ‘leading role’ and making ‘progress’ toward compliance are precisely the sorts of statements that our sister circuits have—we think correctly—deemed puffery and found immaterial as a matter of law.”

Item 303 – Item 303 of Regulation S-K requires issuers to disclose known trends or uncertainties “reasonably likely” to have a material effect on operations, capital, and liquidity.  In 手机怎么挂香港ip, the plaintiffs argued that the failure to make a disclosure required under Item 303 automatically can lead to Rule 10b-5 liability based on the existence of a material omission.  The Third Circuit and 新加坡梯子 (and, to a lesser extent, the Second Circuit) have rejected that argument.  The Eleventh Circuit agreed with those decisions, holding that “Item 303 imposes a more sweeping disclosure obligation than Rule 10b-5, such that a violation of the former does not 手机怎么挂香港ipindicate a violation of the latter.”

Holding: Dismissal affirmed.

Quote of note: “As Judge Learned Hand once put it, ‘[t]here are some kinds of talk which no sensible man takes seriously, and if he does he suffers from his credulity.” Vulcan Metals Co. v. Simmons Mfg. Co., 248 F. 853, 856 (2d Cir. 1918).  Think, for example, Disneyland’s claim to be ‘The Happiest Place on Earth.’  Or Avis’s boast, ‘We Just Try Harder.’  Or Dunkin Donuts’s assertion that ‘America runs on Dunkin.’  Or (for our teenage readers) Sony’s statement that its PlayStation 3 ‘Only Does Everything.’  These boasts and others like them are widely regarded as ‘puff’—big claims with little substance.”