Adverse Event Reports Might or Might Not be Material Information to Investors

March 23, 2011

By Ricardo Carvajal

The Supreme Court affirmed a 9th Circuit Court of Appeals decision that allows a securities fraud class action to go forward against Matrixx Initiatives, Inc. ("Matrixx") for allegedly violating § 10(b) of the Securities Exchange Act and Exchange Commission Rule 10b-5.  As we discussed in a prior posting, the Court granted certiorari last June on the question of “[w]hether a plaintiff can state a claim under § 10(b) of the Securities Exchange Act and SEC Rule 10b-5 based on a pharmaceutical company's nondisclosure of adverse event reports even though the reports are not alleged to be statistically significant.”  By a vote of 9-0, the answer to that question is “yes.”

The Court concluded that “the materiality of adverse event reports cannot be reduced to a bright-line rule.  Although in many cases reasonable investors would not consider reports of adverse events to be material information, respondents have alleged facts plausibly suggesting that reasonable investors would have viewed [the reports at issue] as material.”  The Court noted that there are many instances in which medical experts and FDA infer a causal link between adverse events and a drug in the absence of statistically significant data, and that “it stands to reason that in certain cases reasonable investors would as well.” 

The Court adhered to its prior holding in Basic Inc. v. Levinson, 485 U.S. 224 (1988) that 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.’” The Court emphasized that Basic’s “total mix” standard is not satisfied by the “mere existence” of adverse event reports.  “Something more is needed, but that something more is not limited to statistical significance, and can come from ‘the source, content, and context of the reports.’”

With respect to the element of scienter, the Court concluded 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.”  Considering respondents’ allegations collectively, the Court concluded that there is a “‘cogent and compelling’ inference that Matrixx elected not to disclose the reports of adverse events not because it believed they were meaningless but because it understood their likely effect on the market.”