Securities Snapshot
April 10, 2018

U.S. Supreme Court Changes Rule for when to File Appeals in Consolidated Cases

U.S. Supreme Court changes rule for when to file appeals in consolidated cases; First Circuit affirms dismissal of Sarepta Therapeutics class action; Second Circuit holds trades on Korea Exchange “night market” can qualify as “domestic transactions” for Commodity Exchange Act claims; Massachusetts district court dismisses Biogen securities class action for failure to plead material misstatements and scienter; Southern District of New York dismisses putative securities class action over FCPA violation disclosures; securities lawsuit over statements on drug testing dismissed for failure to plead with specificity; Southern District of New York dismisses putative class action over RMBS trustee’s alleged failure to take action on mortgage loans; and New York Supreme Court applies business judgment rule to derivative suit over director pay.

On March 27, 2018, the U.S. Supreme Court, in Hall v. Hall, addressed when a party can appeal from a decision in cases that have been consolidated for all purposes. Hall involved two cases, filed separately and involving the same litigants, but later consolidated for all purposes and tried together. One case became final after the jury verdict (the plaintiff lost). The other case did not become final (because the trial court granted a new-trial motion). The losing plaintiff in the first case filed an appeal; the U.S. Court of Appeals for the Third Circuit held that the judgment in the first case was not final because the second case was still pending. The Supreme Court reversed, holding that the Third Circuit’s dismissal was in error. The Court reasoned that the first case would have been final and appealable if the second case had never existed, and the consolidation of the first case with the second case did not change that fact. Although not a securities or white-collar action, the Supreme Court’s ruling in Hall implicates when securities and white collar cases that have been consolidated may be appealed in federal courts. The decision changes the rule that has been followed for many years in many federal courts of appeals (including the Federal Circuit, Second Circuit, Ninth Circuit, and Tenth Circuit, and to some extent in all others except the First and Sixth Circuits). In those circuits, appeal is now available – and potentially required – sooner than it previously was.


On April 4, 2018, the U.S. Court of Appeals for the First Circuit dismissed a putative securities class in Kader v. Sarepta Therapeutics, Inc., et al., affirming the lower court’s dismissal of that action with prejudice. On April 21, 2014, Sarepta issued a press release and held a conference call discussing the possibility of submitting a New Drug Application by the year’s end, but noted that the U.S. Food and Drug Administration had expressed concerns about Sarepta’s supporting data. Subsequently, Sarepta disclosed that the FDA wanted to conduct a further review of its methodology. On July 29, 2014, the FDA requested an independent review of Sarepta’s study, however, Sarepta did not disclose this request during the class period. On October 27, 2014, Sarepta issued a press release, announcing that the FDA was requiring it to include additional data and results from an independent review and that Sarepta would not be able to submit an NDA until mid-2015. On October 30, 2014, the FDA issued a public statement highlighting concerns about Sarepta’s data methods. The plaintiffs subsequently filed suit, bringing claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 promulgated thereunder, alleging that the defendants had fraudulently misrepresented the FDA’s communications about Sarepta’s data. The trial court dismissed the plaintiffs’ claims with prejudice, and they appealed. The First Circuit affirmed and held that the FDA’s October 30, 2014 public statement did not support the plaintiffs’ allegations of misrepresentation, because the purpose of the FDA’s statement was to “address[] questions the agency has received from DMD patients, their families, and others in the community,” rather than to correct alleged misrepresentations from Sarepta. The plaintiffs alleged that once Sarepta received the FDA’s July request for an independent review, the defendants knew that they could not reasonably anticipate filing an NDA until the requested independent review was complete. However, the First Circuit held: “Both before and after the July request, it was the case that the FDA was saying that further review by someone other than Sarepta would affect the chances of approval, which is precisely what Sarepta disclosed.” The First Circuit also held that the plaintiffs had failed to plead the required strong inference of scienter, reasoning that “providing warnings to investors, or otherwise disclosing potential risks that erodes inferences of scienter.” The First Circuit was also unpersuaded by the plaintiffs’ allegation that the defendants stood to benefit from reporting positive news about their drug candidate, holding that “catch-all allegations that defendants stood to benefit from wrongdoing are not enough” to support an inference of scienter. Finally, the First Circuit held that because the timing of the plaintiffs’ new complaint indicated that the plaintiffs had waited for the court’s ruling on the motion to dismiss before seeking leave to amend, the district court did not abuse its discretion in denying leave to amend on grounds of undue delay. The Sarepta decision demonstrates the high bar that securities plaintiffs face when life sciences companies provide optimistic yet cautious disclosures regarding drug testing and applications to the FDA. The ruling also illustrates that securities plaintiffs may not take a “wait and see” approach and should not unduly delay in filing an amended complaint.


The U.S. Court of Appeals for the Second Circuit recently held in Choi v. Tower Research Capital LLC that trades on the Korea Exchange “night market,” which matches traders’ orders with a counterparty on an electronic trading platform located in Aurora, Illinois, could qualify as “domestic transactions.” The plaintiffs brought claims under the Commodity Exchange Act and for unjust enrichment against Tower Research Capital LLC and its founder, alleging that the defendants had spoofed trades to manipulate prices of futures on the KRX “night market.” To facilitate after-hours trading, KRX lists and trades future contracts on CME Globex, an electronic platform located in Aurora, Illinois. The plaintiffs alleged that the defendants created hundreds of fictitious buys and sells during night market trading, which drove market prices up or down. The district court dismissed the plaintiffs’ CEA claim on the grounds that applying the CEA to the alleged trades would be an “impermissible extraterritorial application.” The district court also dismissed the unjust enrichment claim, determining that the plaintiffs had not alleged any direct dealing or actual relationship with the defendants. The Second Circuit reversed. Relying on several cases concerning claims under Section 10(b) of the Securities Exchange Act of 1934, the Second Circuit applied a “domestic transaction” test, holding that a transaction involving securities could be a “domestic transaction . . . if irrevocable liability is incurred or title passes within the United States.” The court explained that “irrevocable liability attaches when the parties to the transaction are committed to one another or in the classic contractual sense, there was a meeting of the minds of the parties.” Observing that the plaintiffs alleged that night market trades match on CME Globex and that the matches are “essentially binding contracts,” the Second Circuit held that the plaintiffs’ allegations made it “plausible that the parties incurred irrevocable liability for their KRX night market trades on CME Globex in Illinois” and reversed the lower court’s dismissal of the CEA claims. The Second Circuit also reversed the lower court’s dismissal of the plaintiffs’ unjust enrichment claim, crediting the plaintiffs’ allegation that it was “a near statistical certainty that they directly traded with Defendants.” Even if the plaintiffs had not traded directly with the defendants, the Second Circuit held, they “plausibly allege that Defendants’ spoofing strategy artificially moved market prices in a way that directly harmed Plaintiffs while benefitting Defendants.” The Choi decision further clarifies when U.S. law applies to securities transactions on foreign exchanges.


On March 27, 2018, the U.S. District Court for the District of Massachusetts dismissed a putative securities class action lawsuit in Metzler Asset Management GmbH v. Kingsley, et al. The suit, which asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and SEC Rule 10b-5 promulgated thereunder, alleged that Biogen Inc. and certain of its former executives made materially misleading statements and omissions about Tecfidera, a drug that treats multiple sclerosis. On October 22, 2014, Biogen publicly announced that a MS patient who had taken Tecfidera for more than four years died of progressive multifocal leukoencephalopathy, or PML, and on July 24, 2015, Biogen cut its guidance for revenue growth in half, attributing the change to decline in Tecfidera’s financial performance. Based on statements from confidential witnesses, however, the plaintiffs alleged that Biogen was aware of issues with Tecfidera and its impact on revenue before its public announcements but continued to make positive public statements to investors. Specifically, the plaintiffs alleged that the defendants made 31 misrepresentations and omissions, which understated the effect of PML on Tecfidera’s sales. Out of the 31 statements identified, Judge Dennis Saylor determined that 25 were non-actionable. For example, the court found that some statements were non-actionable as “permissible puffery.” Moreover, although the court found that six of the statements were actionable under the Private Securities Litigation Reform Act, it ultimately determined that plaintiffs had not sufficiently alleged scienter. The court reasoned: “[P]articularized facts about the Biogen’s misrepresentation of Tecfidera’s safety profile and sales decline after the PML death (and more specifically, discontinuations) are necessary here, where defendants specifically included the lymphopenia risk on the Tecfidera label in March 2013 and warned investors about slowing Tecfidera growth throughout the class period.” Ultimately, the court found that defendants had “warned the public about Tecfidera’s potential impact on lymphocyte counts well in advance of the class period and issued timely notifications about the PML death” and that “[t]hese are not the actions of a company bent on deceiving investors . . . .” The decision demonstrates that pleading actionable misstatements and the required strong inference of scienter can (and should) be difficult when a company makes detailed and timely disclosures of its risks.


On March 30, 2018, the U.S. District Court for the Southern District of New York, in Employees Retirement System of the City of Providence v. Embraer S.A., et al., dismissed a putative class action alleging that Embraer S.A. made false or misleading statements and failed to disclose violations of the U.S. Foreign Corrupt Practices Act. On November 3, 2011, Embraer announced that it was under investigation by the U.S. Department of Justice and the U.S. Securities and Exchange Commission for potential FCPA violations. Subsequently, Embraer disclosed that it might be required to pay substantial fines and/or incur sanctions in connection with the previously-disclosed investigations. However, Embraer stated, “Our management, based upon the opinion of our outside counsel, believes that . . . there is no basis for estimating reserves or quantifying any possible contingency.” Eventually, Embraer entered into a deferred prosecution agreement with the DOJ, under which it agreed to pay a fine and disgorge certain profits. The plaintiffs brought suit, alleging that Embraer and certain executives had covered up a bribery scheme and asserting claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and SEC Rule 10b-5 promulgated thereunder. Judge Richard M. Berman dismissed the plaintiffs’ claims in their entirety and with prejudice. Specifically, the plaintiffs argued that “having raised the subject of the investigation, Defendants were duty bound to alert investors to the certainty of the fraud . . . .” Recognizing that companies have no duty “to disclose uncharged, adjudicated wrongdoing,” the court determined that Embraer complied with its disclosure obligations by disclosing that it was under investigation on November 3, 2011, before the class period began. The plaintiffs also alleged that Embraer made misleading statements about Embraer’s business activities by failing to disclose that Embraer’s subsidiaries were allegedly involved in the bribery schemes. The court found this argument unpersuasive and again determined that the defendants had satisfied their disclosure obligations. The plaintiffs further alleged that the defendants failed to identify portions of Embraer’s revenues that were derived from the bribery scheme. The court determined that “a violation of federal securities laws cannot be premised upon a company’s disclosure of accurate data” and observed that the plaintiff did not dispute that Embraer’s financial statements were “literally . . . accurate.” The court also dismissed the plaintiffs’ claims based on alleged violations of Embraer’s code of ethics, holding that the code was “inherently aspirational” and that breaches of the code were not actionable under securities laws. Additionally, the court held that the defendants’ estimate regarding loss contingencies were non-actionable statements of opinion. Finally, the court concluded that the plaintiffs’ allegations regarding Embraer’s breakdown of internal controls were “not sufficiently particularized.” This sort of securities class action is now commonly filed following resolution of an FCPA investigation, and this case illustrates many of the defenses that may be available to a company defending against such litigation.


On March 30, 2018, the U.S. District Court for the District of Massachusetts granted the defendants’ motion to dismiss a putative class action suit in Erste-Sparinvest Kapitalnlagegellschaft MBH v. Seres Therapeutics, Inc., et al. The plaintiffs alleged that Seres Therapeutics and two of its executives made false and misleading statements concerning the results of a Phase 2 study of a drug and asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and SEC Rule 10b-5 promulgated thereunder. In September 2014, Seres announced positive results of a Phase 1b/2 study of a drug it was developing, SER-109. In June 2015, Seres completed an IPO and subsequently began a Phase 2 clinical study of SER-109. On July 29, 2016, Seres announced that the testing had not achieved a primary endpoint with statistical significance, and on January 31, 2017 it issued a press release hypothesizing that manufacturing-related issues may have impacted the Phase 2 study results. The plaintiffs alleged that the defendants were aware of negative interim Phase 2 study results and that the defendants knew or should have inferred that the Phase 2 study would have negative results. Judge Denise J. Casper, however, found that the plaintiffs’ allegations lacked specificity and dismissed the case. For example, the court held that the plaintiffs “fail[] to demonstrate plausibly why general optimism about Phase 2 was false or misleading” and “also fail[] to do more than contrast a defendant’s past optimism with less favorable actual results, which does not support a claim of securities fraud.” The court further found that the plaintiffs’ allegations regarding Seres’s optimism about its manufacturing processes amounted to “fraud by hindsight,” and that “even if the optimism was false, the amended complaint falls short in alleging that Defendants were aware of any information that the manufacturing process would risk affecting the Phase 2 results . . . .” Finally, although the court found that two statements made by third-party analysts were sufficiently “entangled” with statements made by Seres, because they adopted expectations of the Phase 2 study’s success based on the defendants’ presentations, it ultimately held that the statements were not misleading and were not made with any knowledge indicating that they were false. The Seres decision is helpful for life sciences companies making disclosure decisions about drug studies and demonstrates that plaintiffs must plead with a high degree of specificity when bringing such securities claims.


On April 2, 2018, the U.S. District Court for the Southern District of New York dismissed a putative class action against a residential mortgage-backed securities trustee in Bakal v. U.S. Bank National Association. The plaintiffs, investors in a RMBS trust, filed suit against the trustee on several grounds, including alleging that the trustee failed to provide notice of default and to terminate a company, which had served as the master servicer, trust administrator, and custodian for the trust. Specifically, the plaintiffs argued that when the master servicer failed to deposit amounts required under a Pooling and Servicing Agreement, it caused an event of termination, triggering the defendant trustee’s obligations. The court, however, found that the plaintiffs’ real concern was that the company failed to distribute funds properly, which implicated the company’s responsibilities as the trust administrator and not the master servicer. Thus, the court determined that the plaintiffs had not plausibly alleged an event of termination caused by the master servicer. The plaintiffs also alleged that under the Pooling and Service Agreement, in the event of a breach of a representation and warranty, the trustee was required to enforce certain remedial obligations and require the depositor, which had transferred loans to the trust, to repurchase or replace loans. The plaintiffs alleged that even though the trustee had knowledge that the depositor had breached representations and warranties as early as August 2010, it had not commenced litigation until 2012. The court found that the trustee’s suit against the depositor was ongoing and that plaintiffs had not alleged that they “are subject to less recovery than they are entitled” due to the timing of the trustee’s breach notices and the commencement of its action against the depositor. The court also found that the plaintiffs’ allegations that the trustee was “lax in investigating, noticing and enforcing remedies” was conclusory and did not plausibly allege a claim. The court also dismissed the plaintiffs’ claims for breach of fiduciary duty. The decision demonstrates the challenges that RMBS investors face when bringing claims based on a trustee’s alleged actions or inaction.


On March 19, 2018, the New York Supreme Court dismissed a shareholder derivative suit over non-employee directors’ compensation in Solak v. Fundaro, et al. Prior to bringing suit, Intercept Pharmaceuticals, Inc. shareholder John Solak, through his attorneys, sent Intercept a letter, alleging that its non-employee directors’ compensation was excessive and requesting the board to take action. In subsequent correspondence with Intercept, Solak stated that his letter was not a litigation demand. Thereafter, Solak commenced a derivative action, asserting claims of waste and breach of fiduciary duty, and stating that demand was excused because it would have been futile to demand that the directors reduce their own pay before filing suit. Despite Solak’s arguments to the contrary, the court determined that the Solak letter qualified as a demand for suit under Delaware law. In particular, Judge Charles E. Ramos observed that the letter was not issued for personal benefit, was made on behalf of Intercept and its shareholders, identified the alleged wrongdoers and alleged wrongdoing, and identified legal action that Solak wanted the board to take. Determining that the letter was a litigation demand, the court found that Solak failed to sufficiently allege facts demonstrating that the board’s refusal of the demand was grossly negligent or in bad faith and thus, applied the business judgment rule. Observing that “[u]nder the business judgment rule, courts must give deference to directors’ decisions . . . and may not substitute their business judgment for that of the Board,” the court dismissed the case with prejudice. The ruling demonstrates that courts applying Delaware law in derivative shareholder suits may look to the substance of a shareholder’s correspondence with a board to determine whether it constitutes a litigation demand.