This week, the Ninth Circuit examines what constitutes securities fraud in connection with data published from a pharmaceutical clinical trial, and decides whether Arizona has standing to challenge conditions on federal grants to the states to deal with COVID.
The Court holds that plaintiff pension funds failed to plead that Nektar Therapeutics committed securities fraud by relying on outlier data from a single patient during the Phase 1 clinical trial of its anti-cancer drug, NKTR-214.
Panel: Judges M. Smith, Lee, and Forrest, with Judge Lee writing the opinion.
Key Highlight: “Experimental drug candidates do not always live up to their potential, even if initial clinical trials yield highly promising results. But, as this case illustrates, that does not mean that a pharmaceutical company has defrauded the investing public.”
Background: Nektar Therapeutics, a company that researches and develops new drugs, carried out a Phase 1 clinical trial for a drug candidate for cancer treatment, NKTR-214. In 2017, Nektar created and widely disseminated a chart summarizing the results of the Phase 1 clinical trial, showing the effectiveness of its drug on those 10 patients. Nektar then launched a second clinical trial and released new data in 2018. This data “showed that ‘the overall response rate for NKTR-214 in treating melanoma had declined from the 85% rate presented [in the first chart, now] to 50%.” Nektar’s stock price fell 42% when the markets opened on Monday. About four months later, anonymous short-sellers released a report that claimed Nektar’s initial chart was misleading because one patient, Patient 14, presented outlier data, skewing the results. The same day, Nektar’s stock price declined by seven percent.
Two pension funds, the Oklahoma Firefighters Pension and Retirement System, and the El Paso Firemen & Policemen’s Pension Fund, filed suit, alleging that Nektar violated the federal securities laws by making materially misleading statements or omissions in including Patient 14’s data in the chart following its Phase 1 clinical trial. The district court granted Nektar’s motion to dismiss.
Result: The Ninth Circuit affirmed. First, the Court held the complaint does not adequately allege why Nektar’s use of the chart would have deceived a reasonable investor under § 10(b) or Rule 10b-5. Although plaintiffs attempted to demonstrate how the results would have been different without that data, the Court found their arguments did not meet the heightened pleading standard imposed by Rule 9(b) and the Private Securities Litigation Reform Act (PSLRA), which require particularized explanations of allegations. Even if plaintiffs had met this standard, the Court reasoned, they failed to explain how an investor’s assessment of Nektar would have changed if Patient 14’s data had not been included.
Second, the Court also held that plaintiffs failed to allege loss causation because their allegations did not demonstrate more than a tenuous casual connection between the Phase 1 clinical trial data and the subsequent stock drop. The panel reasoned that the results of the second clinical trial “somewhat took the shine off the initial trial data” but did not demonstrate that the first trial data was false. The Court also concluded that the subsequent anonymous short-seller report could not establish loss causation, either, because it did not provide new information to the market.
The Court holds that Arizona has standing to challenge the American Rescue Plan Act.
Panel: Judges Gould, Bennett, and R. Nelson, with Judge Gould writing the opinion and Judge R. Nelson writing a concurrence.
Key Highlight: “We hold that Arizona has standing to challenge the American Rescue Plan Act . . . both because there is a realistic danger of ARPA’s enforcement, and because there is a justiciable challenge to the sovereignty of the State, which alleges infringement on its authority to set tax policy and its interest in being free from coercion impacting its tax policy.”
Background: Enacted in March 2021 to help state, local, and tribal governments mitigate the effects of the COVID-19 pandemic, ARPA provides nearly $200 billion in federal grants to States. Arizona expects to receive $4.7 billion in total aid from the Act, which restricts use of the funds to COVID response, premium pay for essential workers, government services to offset revenue reductions caused by COVID, and water, sewer, or broadband infrastructure investments. States are expressly forbidden from using ARPA funds to, among other things, subsidize a tax cut or otherwise offset a reduction in state net tax revenue.
Arizona sued the federal defendants, alleging that ARPA violates the Spending Clause and the Tenth Amendment. Arizona alleged that the Act is unconstitutionally ambiguous because the statute does not specify what it means to “indirectly offset a reduction in the [State’s] net tax revenue,” violates the Spending Clause by being unduly coercive, and unconstitutionally commandeers Arizona’s sovereign power to set its own tax policy in violation of the Tenth Amendment. The district court dismissed for lack of standing, holding that Arizona did not demonstrate a cognizable Article III injury.
Result: The Ninth Circuit reversed and remanded. Arizona presented three primary theories of injury: (1) compliance costs imposed by the Act’s implementing regulations; (2) the potential for future harm if the Offset Provision is enforced against the state; and (3) “sovereign injuries” caused by unconstitutional vagueness and coercion. The compliance cost theory failed, the Court said, because “standing is measured at the time of the complaint,” and the Treasury Department had not yet promulgated its compliance regs when Arizona filed its complaint.
Turning to the “realistic danger of enforcement” theory, the Court noted that to establish standing for a pre-enforcement challenge, a plaintiff must allege (1) an “intention to engage in a course of conduct arguably affected with a constitutional interest,” (2) “but proscribed by a statute,” and (3) there must be “a credible threat of prosecution” under the statute. Without expressing any view on the merits, the Court found the first prong satisfied by Arizona’s “allegations that the condition is unconstitutionally ambiguous and coercive.” Arizona satisfied the second prong because it has “accepted ARPA funds, certified that it will meet ARPA’s conditions, and passed a $1.9 billion tax cut.” Because the state could not be expected to allege an intent to violate ARPA by using grant funds to offset the resulting net revenue reduction, passing the tax cut was enough. The third prong was also satisfied, the court said, because “[t]he $1.9 billion tax cut Arizona passed is a sufficiently concrete plan,” “the federal government has not disavowed enforcement of the Offset Provision,” and the Treasury Department had signaled some intent to enforce the Offset Provision against the states.
The Ninth Circuit also found Arizona’s asserted “sovereign injury” sufficient to establish standing. The Court said it might require more of a showing at summary judgment, but agreed with Arizona that “[w]hen Congress . . . extends a federal grant with ambiguous or coercive terms to the States,” it “offends state sovereignty and gives rise to a cognizable injury in fact.” s“[I]f the Offset Provision is as ambiguous and coercive as [Arizona] alleges, it will face serious consequences in losing control over its taxing policies and being held to a funding offer that it does not understand.” That was sufficient at this stage and remanded for further proceedings without reaching the merits of Arizona’s constitutional claims.
Judge R. Nelson concurred. He agreed that Arizona has standing to challenge the Offset Provision on its theory of sovereign injury, but disagreed “with the majority’s conclusion that Arizona has alleged ‘an intention to engage in a course of conduct arguably affected with a constitutional interest, but proscribed by a statute.’” Because Arizona “did not allege a reduction in net tax revenue, nor did it make any allegation about how a potential post-tax-cut budget would be structured,” Judge R. Nelson expressed the view “the specter of enforcement is too hypothetical” to establish Article III injury.