Corporate Governance

Matrixx v. Siracusana: Revisiting the Materiality Standard (Part 3)

By J Robert Brown Jr.

So what did Defendants assert in their cert petition?  The petition states the question as follows:

• Respondents filed suit under § 10(b) of the Securities Exchange Act of 1934 and Securities and Exchange Commission Rule 10b-5, alleging that petitioners committed securities fraud by failing to disclose 'adverse event' reports—i.e., reports by users of a drug that they experienced an adverse event after using the drug. The First, Second, and Third Circuits have held that drug companies have no duty to disclose adverse event reports until the reports provide statistically significant evidence that the adverse events may be caused by, and are not simply randomly associated with, a drug's use. Expressly disagreeing with those decisions, the Ninth Circuit below rejected a statistical significance standard and allowed the case to proceed despite the lack of any allegation that the undisclosed adverse event reports were statistically significant.

In other words, the Petitioners characterized the issue as whether statistically insignificant data is immaterial as a matter of law (at least when involving "adverse event reports").  The Petitioners relied on both a split in the circuits and policy grounds to justify Supreme Court consideration of the issue. 

The policy grounds included the impact on the corporate disclosure process.  To the extent finding the reports to be material, companies would have little choice but to disclose massive amounts of unimportant information.  As the cert petition noted:

• a company's only safe alternative would be to provide investors with every adverse event report even though it has no reason to believe that the report casts the slightest doubt on the safety of the drug and even though it has no material significance to a reasonable investor. 

Presumably this is an argument that disclosure would be burdensome to the company.  In addition, however, it would be both unimportant to investors ("Any reasonably sophisticated investor buying shares in a pharmaceutical company must realize that consumers will, from time to time, experience adverse events after using the company's product.") and harmful.  ("Requiring disclosure of every adverse report, as the court of appeals effectively did below, 'would more likely confuse, than inform, the marketplace.'').  The cert petition also asserted that a finding of materiality would harm consumers.  (""Because such information, no matter how carefully phrased, is likely to spawn confusion, the unfortunate effect would be to deter consumers from purchasing drugs that are needed to improve their health."). 

Plaintiffs, not surprisingly, disagreed with the assertion that there was a split in the circuits.  Nor was the case merely about the materiality of statistically significant/insignificant data.  Indeed, the  opposition brief sought to redirect the Court from that characterization of the case. 

• Plainly, the Ninth Circuit did not reject the idea of 'statistical significance' generally, as petitioners would have this Court believe.  Rather, the Matrixx panel simply held that the district court's substitution of a singular benchmark in place of the nuanced materiality inquiry described in Basic was reversible error.

The opposition brief also criticized the attempt to equate statistical significance/insignificance with materiality. 

• This Court's review is also unwarranted because the overall concept of 'statistical significance' urged by petitioners is a poor proxy for Rule 10b-5 'materiality.' While the latter concept concerns the importance a reasonable investor would affix to undisclosed or misstated information (Basic, 485 U.S. at 232), the former is 'a technical term that concerns only whether an observed relationship is real or is the product of chance variation or the effect of an intervening variable.' Melvin Aron Eisenberg, Bad Arguments in Corporate Law, 78 Geo. L.J. 1551, 1555 (1990).

For the cert petition and the reply, we have posted them on the DU Corporate Governance web site.

Full post as published by The Race to the Bottom on June 23, 2010 (boomark / email).