SEC Obtains Consent Judgments Against Biotechnology Company and CEO for False COVID-19 Product Claims

On April 19, 2022, Judge James R. Knepp II of the U.S. District Court for the Northern District of Ohio approved consent judgments against biotechnology firm Rising Biosciences, Inc. and its CEO Arthur Hall for violations of Section 10(b) of the Securities Exchange Act of 1934, and Rule 10b–5 promulgated thereunder.

According to the complaint filed by the U.S. Securities and Exchange Commission, Rising Biosciences and Hall violated Section 10(b) and Rule 10b–5 by making false and misleading statements that the company’s disinfectant product — Oxithymol — had been approved by the U.S. Centers of Disease Control and Protection to disinfect against COVID-19 and had been registered with the U.S. Environmental Protection Agency. For example, in an April 2020 press release approved by Hall, he stated that Rising Biosciences was “pivoting away from [its] normal sector” and “repurposing [its] lab to produce over 10,000 gallons of much-needed disinfectant a month,” which the press release claimed was “proprietary, non-toxic,” and “CDC approved.” In actuality, the SEC contended, Oxithymol was made from another company’s pesticide, and Hall purportedly knew that neither Oxithymol nor the pesticide had been approved by the CDC or met EPA criteria for use against COVID-19. The SEC alleged that the defendants’ false and misleading statements resulted in substantial increases in both the trading volume and price of the company’s stock.

The consent judgments resolve the claims against Rising Biosciences and Hall, restrain and enjoin them from committing further securities laws violations, and order them to disgorge their ill-gotten gains and pay civil penalties and interest in an amount to be determined by the court.

The consent judgment against Hall also permanently bars him from acting as an officer or director “of any issuer that has a class of securities registered pursuant to Section 12 of the Exchange Act ... or is required to file reports pursuant to Section 15(d) of the Exchange Act” and prohibits him from participating in penny stock offerings, including “engaging in activities with a broker, dealer, or issuer for purposes of issuing, trading, or inducing or attempting to induce the purchase or sale of any penny stock.”

Temporary Restraining Order to Silence Tesla CEO Elon Musk Denied in Tesla Class Action Lawsuit

On April 20, 2022, in In Re Tesla, Inc. Securities Litigation, Judge Edward M. Chen of the U.S. District Court for the Northern District of California denied Tesla, Inc.’s investor Glen Littleton’s motion for a temporary restraining order against Tesla’s CEO Elon Musk seeking to enjoin him from “discussing th[e] case and its underlying facts.” 

The order stems from a lawsuit in which investors allege that Musk’s August 2018 tweets — in which he claimed that he was looking to take Tesla private and that he secured the requisite funding — were false, and resulted in inflated or distorted stock and option prices, constituting violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b–5 promulgated thereunder. In connection with that lawsuit, on April 1, 2022, the court issued a sealed summary judgment order, which “found that Musk’s tweets from August 2018 — claiming, e.g., that funding was secured — were in fact false and made with the requisite scienter.” Two weeks after the summary judgment order was entered, during a April 14, 2022 TED talk, Musk disputed the court’s findings, stating that funding had in fact been secured to take Tesla private in the July to August 2018 timeframe. Plaintiff responded by filing the motion for temporary restraining order, seeking to prevent Musk from further discussing the litigation, citing the need to ensure a fair and impartial trial untainted by jury bias.

The court denied plaintiff’s motion without oral argument. In so doing, the court found that plaintiff had failed to show that the investors’ case would be compromised if Musk was not silenced, citing the length of time remaining before trial (which is scheduled for January 2023), the large jury pool from which the jury will be drawn, and the consistency of Musk’s statements with the “public positions” he had already taken throughout the litigation. The court further concluded that the proposed restraining order was “overbroad,” because it sought to restrict Musk from speaking to anyone about the case, as opposed to a more limited category of public statements, such as those to the media. Finally, the court reasoned that any juror bias could be addressed during the juror selection process, noting further the court’s intent to instruct the jury that it had “already found that the August 2018 tweets were false and made with the requisite scienter,” would work as an additional safeguard.

Eighth Circuit Partially Reverses Summary Judgment Against Petters Ponzi Investor

On April 21, 2022, the U.S. Court of Appeals for the Eighth Circuit partially reversed a summary judgment finding that Safe Harbor Managed Account 101 Ltd., an investor in a Ponzi scheme perpetrated through Petters Company, Inc. by ex-CEO Thomas Petters, was shielded from the bankruptcy trustee’s efforts to recoup $6.9 million that Safe Harbor earned from its investment in an affiliated entity.

The dispute stems from a series of transactions dating back to a time period spanning from 1994 to 2008, when Petters, through his company, purported to run a “diverting” business that purchased electronics in bulk and resold them at high profits to retailers, but was instead diverting loan proceeds from Petters Co. in order to repay interest due on outstanding loans from other investors. In connection with this scheme, Petters Co. used a wholly-owned subsidiary, MGC Finance, Inc., and formed Arrowhead Capital Partners II, L.P. to serve as a Petters Co. feeder fund for Arrowhead’s investors. Arrowhead, in turn, utilized a special purpose entity, Metro I, LLC, to facilitate payments from Arrowhead to Petters Co. through MGC. Metro and MGC eventually entered into a Credit Agreement, which provided that Metro would make loans evidenced by promissory notes to MGC (“MGC Notes”) to finance Petters Co.’s business. Metro and Arrowhead also entered into a Note Purchase Agreement, through which the MGC Notes were transferred to Arrowhead. When MGC paid Arrowhead on the MGC Notes under the Note Purchase Agreement, those funds would flow back through the Wells Fargo account to repay Petters Co. investors.

In 2002, unaware of Petters’s scheme, Safe Harbor invested $6 million in Arrowhead and entered into a Limited Partnership Agreement and Subscription Agreement with the company. Safe Harbor wired funds into a “custodial” account held by Wells Fargo, which Arrowhead used to purchase the MGC Notes from Metro. In September 2003, Safe Harbor liquidated its investment in Arrowhead, netting a total of nearly $6.9 million.

After Petters’s fraud was uncovered in 2008, Petters Co. filed for bankruptcy, with the company and other Petters entities being placed into civil receivership. In 2010, the trustee of the Petters Co. Liquidating Trust filed an adversary proceeding against Arrowhead seeking to avoid the transfers MGC made to it; the bankruptcy court found that the transfers were indeed avoidable after Arrowhead failed to defend the case. Years later, in 2017, the trustee filed the an adversary proceeding against Safe Harbor, alleging that the nearly $6.9 million that Arrowhead received from MGC and then transferred to Safe Harbor was also recoverable in the bankruptcy under the same theory.

Safe Harbor defended its interest in the $6.9 million proceeds, eventually filing the subject motion for summary judgment, arguing that 11 U.S.C. § 546(e) — which excepts from a trustee’s avoidance powers certain “transfer[s] made by or to (or for the benefit of) a ... financial institution ... in connection with a securities contract" — applied to this transfer. The district court granted summary judgment, finding that § 546(e) applied because (1) Arrowhead was a “financial institution,” (2) the Note Purchase Agreement was a “securities contract,” and (3) the transfers were made “in connection” with the Note Purchase Agreement. The trustee appealed, arguing that the district court erred in finding that Arrowhead was a “financial institution,” because Wells Fargo was not acting as Arrowhead’s “custodian” and therefore Arrowhead did not itself qualify as a “financial institution” for purposes of § 546(e). The trustee also argued that the transfers were not made “in connection with a securities contract,” both because the Note Purchase Agreement did not fit the statute’s definition of “a securities contract,” and because the relevant transfers were not actually made “in connection” with the Note Purchase Agreement.

The Eighth Circuit reversed the summary judgment ruling in part. The court first affirmed the district court’s finding that Arrowhead was a “financial institution” — because the commercial bank, Wells Fargo, was acting as custodian for Arrowhead, making Arrowhead a “financial institution” in its own right. The court also agreed that the Note Purchase Agreement was “a securities contract for purposes of § 546(e)” — because the Bankruptcy Code’s plain meaning of “note” “clearly encompasse[d]” the MGC Notes. The court, however, agreed with the trustee’s argument on appeal that the district court based its conclusion that the transfers were made “in connection” with the Note Purchase Agreement on the mistaken belief that MGC, as opposed to Metro, was actually a party to the Note Purchase Agreement. The Eighth Circuit reasoned that “by confusing MGC and Metro,” the district court incorrectly “assumed that the party making the transfers to Arrowhead was party to the Note Purchase Agreement and, thus, that the relevant transfers were made in connection with a securities contract.” The court noted Safe Harbor’s argument in response that “the transactions between MGC and Metro and Metro and Arrowhead were part of an ‘integrated transaction,’” but declined to rule as to whether this was sufficient to establish that the transactions were “in connection” with the Note Purchase Agreement. The court instead remanded to the district court to determine “whether, despite the fact that MGC was not party to the Note Purchase Agreement, the transfers from MGC to Arrowhead were nonetheless made ‘in connection with’ the Note Purchase Agreement,” and thus within § 546(e)’s exception.

Fourth Circuit Affirms Dismissal of Complaint With Prejudice, Finding Investor Failed to State a Valid Claim That Marriott’s Public Statements Were False or Misleading

On April 21, 2022, the U.S. Court of Appeals for the Fourth Circuit affirmed the dismissal of an investor’s securities suit against Marriott International, Inc. and nine of its officers and directors, holding that none of the challenged statements concerning the company’s cybersecurity efforts were false or misleading.

The case stems from Marriott’s 2016 merger with Starwood Hotels and Resorts Worldwide, through which Marriott subsumed Starwood’s databases, which contained sensitive personal information of its customers, into its own systems. Two years later, Marriott learned that malware had impacted hundreds of millions of Starwood’s guest records. A Marriott investor thereafter filed a putative class action, asserting claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, alleging that Marriott failed to disclose “severe vulnerabilities” in Starwood’s systems, which rendered 73 public statements false or misleading. The U.S. District Court for the District of Maryland granted Marriott’s motion to dismiss with prejudice, concluding that the complaint “failed to adequately allege a false or misleading statement or omission,” and otherwise failed to plead scienter and loss causation. The investor appealed as to three categories of challenged statements: “statements about the importance of protecting customer data; privacy statements on Marriott’s website; and cybersecurity-related risk disclosures.”

The Fourth Circuit affirmed, holding that none of the challenged statements were false or misleading. The first set of challenged statements — those concerning the importance of protecting customer data — included statements in SEC submissions noting that “protection of customer ... data [was] critical” to Marriott, which the investor argued were misleading because, by failing to disclose the vulnerabilities of Starwood’s databases, the statements created the impression that Marriot was taking robust steps to protect the Starwood data. The court disagreed, holding that the statements did not create such a misleading impression because none of the statements represented the quality of Marriott’s cybersecurity systems.

As to the second set of statements — involving statements on Marriott websites claiming, among other things, that it sought to “use reasonable ... measures to protect” personal data, while noting that “no data transmission or storage system can be guaranteed to be 100% secure” — the court similarly held that the statements were not false or misleading. In so ruling, the court pointed to concessions in the complaint itself that Marriott did, in fact, make efforts to strengthen its security efforts, reasoning that those concessions undercut any assertion that such statements were false or misleading. The court also found that the statements included “sweeping caveats” — e.g., that the company may be unable to satisfy cybersecurity regulatory requirements — such that no reasonable investor could have been misled by them.

With respect to the third set of challenged disclosures concerning Marriott’s cybersecurity risk, which warned that “[e]fforts to hack or circumvent security measures” could occur, the court rejected the investor’s argument that these “general” statements were false or misleading in light of Marriott’s actual knowledge of a data breach. The court reasoned that, where Marriott had updated its disclosures to note specifically that it had experienced cyber-attacks, this ensured that the previously made forward-looking “warnings” were not rendered false or misleading.

The Fourth Circuit concluded that, while Marriott “certainly could have [disclosed] more,” it was not required to do so, and certainly was not required to make detailed disclosures that could compromise its cybersecurity efforts. For these reasons, the court affirmed the district court, and concluded that Marriott had provided “sufficient information” to ensure its statements were neither false nor misleading.

Goodwin Secures Dismissal for bluebird bio in MA Securities Class Action

On April 21, 2022, the U.S. District Court for the District of Massachusetts dismissed with prejudice a class action lawsuit brought against biotechnology company bluebird bio, Inc. and its chief executive officer and chief financial officer. The court adopted each argument set forth by bluebird in its motion to dismiss, finding that the second amended complaint inadequately pleaded scienter, loss causation, and material misstatements or omissions in connection with obtaining U.S. Food and Drug Administration approval to market LentiGlobin, a gene therapy program for the treatment of sickle cell disease.

The putative class action was initiated on February 12, 2021, when an investor filed suit against bluebird claiming violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. bluebird develops gene therapies for severe genetic diseases using lentiviral vectors to introduce a functional copy of a gene to a patient’s own stem cells ex vivo (“outside the patient”) and then the modified stem cells with functional genes are reinserted into the patient. According to the complaint, bluebird announced plans to seek FDA approval for LentiGlobin, a drug designed to be a one-time gene therapy treatment to treat sickle cell disease, in the second half of 2021. If approved, LentiGlobin could be a “blockbuster therapy” for bluebird, with analysts projecting peak global sales at $2.1 billion, nearly as much as all of bluebird’s other four products in development combined, the court noted.

On May 11, 2020, bluebird announced that it had reached “general agreement” with the FDA that the clinical data required to support a Biologics License Application (“BLA”) for LentiGlobin would be based on data from a portion of patients that have already been treated. In announcing this positive development, bluebird also advised investors that it had not reached agreement with the FDA on the Chemistry, Manufacturing and Controls (“CMC”) portion of the BLA submission, and that the FDA may require the company to conduct additional trials or studies to demonstrate that a recent change in the company’s manufacturing process resulted in a lentiviral vector used to develop the gene therapy that was comparable to the lentiviral vector as manufactured under the company’s prior process.

After bluebird announced the general agreement on the clinical data, the company’s share price increased $0.95 on unusually high trading volume. On May 18, 2020, one week after the announcement, bluebird commenced a public offering. The offering documents confirmed that bluebird was planning to seek an accelerated approval for LentiGlobin and expected to submit the BLA in the second half of 2021. The company’s share price rose $0.48 on May 18, and another $7.27 on May 20, to close at $65.17. Through the public offering, bluebird sold 10.5 million shares of common stock at $55.00 per share, raising aggregate net proceeds of $541.5 million. Later, on November 4, bluebird announced that it no longer planned to submit its BLA for LentiGlobin on the schedule announced in its offering documents due to new guidance from the FDA on what data the FDA would require to show comparability of the company’s new manufacturing process and COVID-19-related delays. In the same announcement, bluebird adjusted the timing of the BLA submission back to the more conservative initial target schedule of late 2022. During an analyst call the same day, bluebird’s chief technology and manufacturing officer stated that he presumed that the FDA’s concern with manufacturing comparability data reflected an FDA concern about the potency of the therapy when using the company’s new manufacturing process. The stock price fell $9.72 per share to close at $48.83 per share on November 5. The putative class action followed, alleging securities fraud between May 11, 2020, and November 4, 2020.

The plaintiff first claimed that the defendants intentionally or recklessly disregarded that bluebird’s initially proposed comparability plan could not show the comparable potency of LentiGlobin when manufactured using the suspension process because the plan did not involve using cells from sickle cell disease patients. The court found that these claims were based on a “fraud in hindsight” theory, contrasting a defendant’s past optimism with the less favorable actual results in support of a claim of securities fraud. The court also held that the plaintiff did not allege sufficient facts to establish a strong inference of scienter that the defendants’ actions misled investors “to raise sorely needed capital” by selling the company’s stock at artificially inflated prices. Further, the court found that the amended complaint failed to allege sufficient facts to support the claim that the defendants knew or recklessly did not know that the plan would be rejected by the FDA. In fact, the court found that a competing, nonculpable inference from the facts alleged — that bluebird designed a comparability study it thought would be sufficient given that (1) the FDA has not prescribed a specific method for showing comparability; and (2) that bluebird used healthy donor cells to demonstrate comparability in the past — was more compelling than the plaintiff’s proposed inference.

The court also held that most of the alleged misstatements were immunized by the Private Securities Litigation Reform Act’s safe harbor provisions. First, because the facts alleged indicated that the defendants disclosed to investors the relevant risk as understood at the time of disclosure, the court determined that the plaintiff could not establish that the defendants’ statements were materially false or misleading. Second, the safe harbor provisions further immunized the defendants’ alleged statements discussing potential FDA approval, which were accompanied by meaningful cautionary language, as protected forward-looking statements.

Finally, the court found that the plaintiff could not show loss causation because he did not allege any corrective disclosure. The plaintiff’s “zone of risk” theory failed for similar reasons, as the defendants did not conceal the risk that the FDA could require additional comparability analysis, but instead disclosed the risk several times throughout the class period. Therefore, the plaintiff failed to allege sufficient facts to support loss causation.

The court also denied the plaintiff’s request to amend, finding that the plaintiff failed to show that new information had been discovered such that amending the complaint would not be futile. Goodwin attorneys Deborah Birnbach, Jennifer Luz, Emily Unger, and Virginia Calistro represented bluebird in the action.

Lawyers in Goodwin’s Securities and Shareholder Litigation and White Collar Defense practices have extensive experience before U.S. federal and state courts, legislative bodies and regulatory and enforcement agencies. We continually monitor notable developments in these venues to prepare the Securities Snapshot — a bi-weekly compilation of securities litigation news delivered to subscribers via email. This publication summarizes news from the civil and criminal securities law arenas in a succinct, digestible format. Topics covered include litigation and enforcement matters, legislation, rulemaking, and interpretive guidance from regulatory agencies.

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Charles A. Brown
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Zoe Bellars
Jessica Huang