United States: Southern District Of New York Dismisses Putative Securities Fraud Class Action With Prejudice, Finding Individual Defendants' Retention Of Zero-Cost Stock And Vested Options Undermined Inference Of Scienter

On June 11, 2018, Judge Paul A. Engelmayer of the United States District Court for the Southern District of New York dismissed with prejudice a putative securities fraud class action against veterinary pharmaceutical company Aratana Therapeutics Inc. (“Aratana” or the “Company”) and two of its officers. In re Aratana Therapeutics Inc. Sec. Litig., No. 1:17-cv-00880 (S.D.N.Y. June 11, 2018). Plaintiffs alleged that defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 by making misstatements about the timeline for bringing Entyce, an appetite stimulant drug for dogs, to market, causing plaintiffs to suffer losses when Aratana later disclosed that it had not yet found a manufacturer approved by the Food & Drug Administration (“FDA”) and Aratana’s stock price declined. The Court disagreed, finding that plaintiffs failed to allege that the Company’s statements about its FDA approvals process or timeline were false or made with intent to mislead investors, and dismissed plaintiffs’ amended complaint with prejudice.

The Court first considered plaintiffs’ allegation that the Company repeatedly misrepresented that it was on the cusp of achieving, or had achieved, the FDA approvals necessary for commercialization of Entyce on Aratana’s stated timelines. Plaintiffs contended the statements were misleading because Aratana had not yet secured an FDA-approved third-party manufacturer, making any approvals “a mere placeholder that required further amendments and approvals.” The Court disagreed, finding that most of Aratana’s statements constituted mere puffery, statements of opinion, or forward-looking statements that were not actionable. For example, the Court held that Aratana’s statement that it had “made remarkable progress towards our stated goal of advancing our expanding pipeline towards commercialization” merely put a “positive spin on developments in the [FDA approval] process,” and therefore amounted to nonactionable puffery. Similarly, the Court held that Aratana’s expectations regarding FDA approval and the timeline for Entyce’s commercial release were nonactionable either as opinions (such as “we believe”) or as forward-looking statements accompanied by cautionary disclosures (such as that Aratana was dependent on third-party manufacturers and third-party manufacturers required FDA approval).

The Court then considered whether plaintiffs had adequately alleged that defendants had made any misstatements with scienter by showing that defendants either had “motive and opportunity” to make false or misleading statements or engaged in “conscious misbehavior or recklessness” when making the challenged statements. The Court first addressed plaintiffs’ contention that the individual defendants enriched themselves through suspicious sales of Aratana stock. Defendants had countered that the individual defendants’ acquisition of additional stock and stock options during the same period that they sold shares should be taken into account in comparing the volume of an insider’s sales to his or her overall shareholdings; plaintiffs argued that stock and options acquired at no cost should be disregarded in determining whether the individual defendants’ trading activity gave rise to an inference of scienter. Noting that the Second Circuit had not yet definitively determined what types of shares should be included in such an analysis, the Court found that “there is wisdom” in the approach taken in In re eSpeed, Inc. Securities Litigation, 457 F. Supp. 2d 266, 290-91 (S.D.N.Y. 2006), in which Judge Scheindlin adopted the Ninth Circuit’s nuanced approach of distinguishing between exercisable vested stock options and unvested stock options which could not be sold immediately. See In re Silicon Graphics Sec. Litig., 183 F.3d 970, 986-87 (9th Cir. 1999). Under that approach, the decisive question in assessing whether an insider’s sales are indicative of scienter is how many shares the insider sold during the period relative to the total number of shares that he or she could have sold. Accordingly, the Court counted both zero-cost shares of common stock and vested options, but not unvested options, in calculating the individual defendants’ total shareholdings. Under that methodology, one individual defendant had only a “miniscule overall reduction” in holdings during the class period, while the other had a significant increase in holdings. Emphasizing that this lack of evidence of suspicious sales by the individual defendants undermined an inference that they had sought to capitalize on any artificial inflation of Aratana’s stock price, the Court held that plaintiffs’ allegations of insider stock sales did not establish motive.

The Court also rejected plaintiffs’ contention that defendants had a motive to lie about Entyce’s approvals to avoid early penalty payments on an outstanding Company loan, pointing out that courts in the Second Circuit have consistently held that a desire to reduce a company’s debt burden or keep a stock price high is insufficient to establish an inference of scienter. Finally, noting that plaintiffs’ complaint failed to identify any internal documents or confidential witness statements suggesting that defendants knowingly deceived shareholders, the Court concluded that plaintiffs had not adequately alleged conscious misbehavior or recklessness.

Judge Engelmayer’s holding that zero-cost stock and vested options should be considered in calculating a defendant’s overall shareholdings in a given period provides important support for an argument potentially available to defendants in responding to allegations of alleged insider sales as purported evidence of scienter.


In re Aratana Therapeutics 17-cv-00880

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