Supreme Court's Matrixx Decision Expands Firms' Disclosure Burden
This article was originally published in The Tan Sheet
Executive Summary
The Supreme Court's decision in a complaint shareholders brought against Matrixx Initiatives lowers the threshold for when firms need to disclose information, but also aims to prevent an "avalanche of trivial information."
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The Supreme Court's decision in a complaint shareholders brought against Matrixx Initiatives lowers the threshold for when firms need to disclose information, but also aims to prevent an "avalanche of trivial information." The high court March 22 unanimously decided in favor of Matrixx shareholders, who argued in a 2004 suit that the firm should have disclosed adverse event reports indicating that its zinc-containing Zicam intranasals could cause users to lose their sense of smell. The decision upholds an appellate court's ruling that the shareholders can sue Matrixx concerning the undisclosed AERs.
Matrixx v. Siracusano
In an opinion Justice Sonia Sotomayor wrote, the court rejected Matrixx's argument that in part asserted the Zicam information was not of material interest to investors because the number of AERs did not reach statistical significance. Sotomayor explained that statistical significance is not the only factor considered in determining causal links between adverse effects and the products used. "A lack of statistically significant data does not mean that medical experts have no reliable basis for inferring a causal link between a drug and adverse events," she wrote, adding that courts frequently permit expert testimony on causation based on evidence other than statistical significance. Sotomayor also pointed out FDA considers other factors when investigating a drug. "Not only does the FDA rely on a wide range of evidence of causation, it sometimes acts on the basis of evidence that suggests, but does not prove, causation," the justice wrote. For example, she explained that FDA requires OTC drug manufacturers to revise product labeling "to include a warning as soon as there is reasonable evidence of an association of a serious hazard with a drug; a causal relationship need not have been proved." Because medical experts and FDA act on information at a less than statistically significant level, it stands that a reasonable investor also likely would act on that information, she wrote. The ruling also stated the standard for which Matrixx argued would exclude information a reasonable investor would want to know when making an investment decision, a violation of the standard set in a previous case, Basic v. Levinson. Additionally, such a standard "rests on the premise that statistical significance is the only reliable indication of causation" that a drug caused a given adverse event, but such a premise is flawed, Sotomayor wrote.
Matrixx, which private equity group H.I.G. Capital acquired in late 2010, did not respond to a request to comment. Matrixx's revenue plummeted after the firm withdrew its top-selling products – Zicam intranasal gels and swabs – in 2009 when FDA warned consumers of potential safety problems, five years after the shareholders filed their suit (Also see "Zicam Case Shows FDA Takes Defining Adverse Events Seriously" - Pink Sheet, 22 Jun, 2009.). Industry Feared Information Flood Industry groups had argued that a Supreme Court decision for the shareholders would lead to a flood of information in the marketplace as firms over-disclosed to avoid lawsuits (Also see "Trade Groups Back Matrixx On AER Disclosure In Supreme Court Case" - Pink Sheet, 6 Sep, 2010.). However, Sotomayor's opinion refuted that assertion. The justice noted the standard established in Basic requires accounting for the total mix of information presented to investors and is not made moot by the Matrixx ruling. "We were 'careful not to set too low a standard of materiality' for fear that management would 'bury the shareholders in an avalanche of trivial information,'" Sotomayor wrote, quoting TSC Industries v. Northway, an earlier case that established the materiality standard. The Basic standard "does not mean that pharmaceutical manufacturers must disclose all reports of adverse events," she wrote. "The question remains whether a reasonable investor would have viewed the nondisclosed information as having significantly altered the 'total mix' of information made available," she wrote. The "total mix" standard is not satisfied by the mere existence of adverse event reports, Sotomayor wrote. "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,'" she added. Further, Sotomayor notes securities laws cited in the case require disclosure only of material information that may make a firm's previous public statements misleading. "Even with respect to information that a reasonable investor might consider material, companies can control what they have to disclose under these provisions by controlling what they say to the market," she wrote. But in this case, Matrixx said its earnings would increase first 50% and later 80% even after learning of a researcher's presentation linking Zicam to anosmia. Additionally, when a news service reported FDA was investigating similar complains, Matrixx issued a press release refuting the safety concerns. "Good News" In The Decision Although industry advocates had preferred the court uphold the statistical significance standard, the decision's emphasis that total disclosure is not required is "good news," said Erik Olson, an attorney following the case. In fact, Sotomayor's clear declaration that not all disclosures of material information are mandatory may change companies' behavior, said Olson, a partner at Morrison & Foerster's Palo Alto, Calif., office. "Some companies will provide less information because by saying less about something, they also have less they have to disclose about some other piece [of information]," he said. The reaffirmation of the Basic standard means what pharmaceutical companies "should take from that is that they need to spend some time talking to their lawyers about their specific disclosures" and come up with a "sensible, defendable plan about when and how they'll disclose adverse events," Olson said in an interview.
In a client alert co-authored with college Stephen Thau, Olson emphasized companies make all public statements carefully. "Rash or categorical comments are far more likely to form the basis for a lawsuit than measured, careful statements about the facts," the attorneys wrote. Justices Aware Of Balancing Needs The court's decision follows Jan. 10 oral arguments in which justices expressed concern with balancing the need for disclosure of relevant information while preventing the release of so much information that important facts are obscured (Also see "Search For Balance Drives Supreme Court Debate In Matrixx Case" - Pink Sheet, 17 Jan, 2011.). The decision affirms the Ninth Circuit Court of Appeals' June 2009 ruling and returns the case to the trial court, the U.S. District Court for the District of Arizona (Also see "Court Revives Zicam Complaint, But Says Disclosure Remains Case-by-Case" - Pink Sheet, 9 Nov, 2009.). The Arizona court ruled for Matrixx's motion to dismiss the shareholders' complaint, citing the statistical significance standard, before the shareholders prevailed in appellate court and Matrixx appealed to the high court. The Supreme Court ruling sends the case back to the Arizona court at the trial court level, which will decide how to proceed. "It's still a long way from a trial, and there are a number of steps that could intervene that could keep it from ever getting to a trial," Olson said. Materiality, Scienter Proven The facts of the case also meet the materiality standard created in Basic. Reports Matrixx received from medical experts and researchers "plausibly indicated a reliable causal link between Zicam and anosmia," according to the court. With the information, consumers likely would view Zicam's risk of anosmia as outweighing its benefit. The shareholders' complaint suggests "a significant risk to the commercial viability of Matrixx's leading product" and that a reasonable investor likely would view this information as having significantly altered the total mix of information previously disclosed. Finally, the court held the shareholders adequately pleaded scienter – "a mental state embracing intent to deceive, manipulate or defraud." A Matrixx official informed a researcher that the firm had hired a consultant to investigate the safety of its product, and the firm prevented a second researcher from using the product's name in a presentation showing a link between zinc and anosmia, Sotomayor noted. "Most significantly," she added, Matrixx issued a release suggesting studies confirmed Zicam did not cause anosmia when it had not actually conducted studies, and according to a panel of scientists, evidence available at the time was insufficient to determine the relationship between Zicam and anosmia. Taken together, these allegations give rise to an 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," Sotomayor wrote. |