On Tuesday March 22, 2011, the United States Supreme Court declined the opportunity to redefine, or at least clarify its definition of, the term “materiality” as it applies to representations or omissions in a federal securities fraud case. Matrixx Initiatives, Inc. v. Siracusano, 563 U.S. ____ (Mar. 22, 2011).
In Matrixx, the plaintiffs sued Matrixx, the manufacturer of Zicam Cold Remedy, and certain executives on behalf of purchasers of the company’s securities under Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5. The pertinent factual allegations underlying the claim were that the manufacturer had received “adverse event” reports that some consumers suffered anosmia (loss of one’s sense of smell) after using Zicam. Matrixx failed to disclose the reports. The plaintiff’s theory was that the failures to disclose these reports, combined with subsequent statements, were misleading and thus were “material misrepresentation[s] or omission[s].” Matrixx, Slip Op. at 9. Importantly, the plaintiffs did not allege a statistically significant correlation between use of the drug and anosmia.
The two pivotal issues raised in the defendants’ motion to dismiss were (1) whether “adverse event reports that do not reveal a statistically significant increased risk of adverse events from product use” are “material” information (Id. at 9) and (2) whether the scienter requirement is met when there are no allegations of statistically significant evidence of causation (Id. at 20). The trial court dismissed the claim, finding that an allegation of statistical significance was required to adequately allege materiality and scienter. See id. at 7. The trial court relied on a Second Circuit opinion, which – consistent with two other circuit opinions – required allegations of a statistically significant link between a drug and adverse effects as a prerequisite to stating a claim under Section 10(b). See In re Carter-Wallace, Inc. Sec. Litig., 220 F.3d 36, 40 (2d Cir. 2000); N.J. Carpenters Pension & Annuity Funds, 537 F.3d 35, 58 (1st Cir. 2008); Oran v. Stafford, 226 F.3d 275, 284 (3d Cir. 2000).
The Ninth Circuit reversed the dismissal order, relying on Basic Inc. v. Levinson, 485 U.S. 224, 232 (1988). In affirming the Ninth Circuit, the Supreme Court reiterated the “total mix” test set forth in Basic, stating “[the] materiality requirement is satisfied when there is ‘a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the ‘total mix’ of information made available.’” Matrixx, Slip Op. at 10 (citing Basic, 485 U.S. at 231-32). The Court thus rejected Matrixx’s proposed (as well as three federal circuits’) bright-line, “statistically significant” requirement and found that “‘[i]t is substantially likely that a reasonable investor would have viewed this information ‘as having significantly altered the “total mix” of information made available.’” Matrixx, Slip Op. at 19 (citing Basic, 485 U.S. at 232). The Court also found that “Matrixx’s proposed bright-line rule requiring an allegation of statistical significance to establish a strong inference of scienter is just as flawed as its approach to materiality.” Matrixx, Slip Op. at 21. In dicta, the Court declined to establish whether recklessness suffices to fulfill the scienter requirement. See id. at 19-20.
The upshot of Matrixx is that it appears to leave the requirements for pleading securities fraud intact, but it is nonetheless significant. First, it is – surprisingly – unanimous, with not even a concurring opinion. Second, it effectively overturned the First, Second, and Third Circuits’ opinions, supra, to the extent they required plaintiffs to plead statistical significance when stating a nondisclosure claim against a drug manufacturer under Section 10(b). Finally, the Court’s failure to adopt some bright-line test leaves defendants with very little guidance for treading the narrow path between, on one hand, not disclosing adverse information and leaving themselves vulnerable to a securities fraud class action, or, on the other hand, disclosing inaccurate or incomplete information, which could potentially violate securities laws. See N.J. Carpenters, 537 F.3d at 58.
For more information, please contact Ashley Bruce Trehan.