Securities Law Alert
In This Edition:• Ninth Circuit: Pharmaceutical Company’s Decision to Discuss Certain Studies Supporting a Drug’s Safety
Necessitated Disclosure of Another Study Linking the Drug to Cancer• Northern District of California: Broad Statements Concerning the Success of Merger Integration Efforts
Constitute Inactionable Puffery• Delaware Chancery Court: Directors Did Not Act in Bad Faith in Approving a Controlling Stockholder’s
Takeover Offer Even Though a Higher Third-Party Offer Was on the Table
November 2016

Ninth Circuit:
Pharmaceutical Company’s
Decision to Discuss Certain
Studies Supporting a Drug’s
Safety Necessitated Disclosureof Another Study Linking the
Drug to Cancer
Simpson Thacher’s“exceptional” securities
litigation team “is frequently
retained by many major banks
and private equity firms in
high-stakes disputes.”– Legal 500 2016

On October 26, 2016, the Ninth Circuit
revived a securities fraud action alleging
that Arena Pharmaceuticals had madematerial misrepresentations concerning
the safety profile of and likelihood of FDA
approval for lorcaserin, a weight-loss drug.
Schueneman v. Arena Pharmaceuticals,2016 WL 6246875 (9th Cir. 2016) (Bybee, J.)(Arena II). The Ninth Circuit determinedthat once the company chose to represent
that animal studies supported the drug’s
safety, the company was then required todisclose the existence of a rat study linking
the drug to cancer.

Background
In March 2009, Arena’s CEO reported toinvestors that he was “confident” about thelikelihood of FDA approval for lorcarserin
Simpson Thacher & Bartlett LLP

based, among other things, on “all theanimal studies that ha[d] been completed.”
In May 2009, Arena submitted an SEC filing
representing that “the long-term safety andefficacy of lorcaserin had been demonstrated,in part, through . . . preclinical, animalstudies.” Neither disclosure mentioned anonclinical study suggesting that lorcarserincaused cancer in rats (the “Rat Study”).
On September 14, 2010, “the FDA disclosed
the existence of the Rat Study and concerns
about lorcaserin’s possible carcinogenicity
for the first time.” Arena’s stock pricefell in value by 40% on the day of the
FDA’s announcement.
Plaintiffs subsequently brought the instantsecurities fraud action in the Southern
District of California. The district court
dismissed the complaint for failure to raisea strong inference of scienter. The court
found the “more plausible inference” fromplaintiffs’ allegations was that “[d]efendants
had a legitimate scientific opinion” that the
Rat Study did not indicate that lorcaserin
would cause cancer in humans. Shueneman v.
Arena Pharmaceuticals, 2014 WL 12515272(S.D. Cal. 2014). The court held defendants’“legitimate and unanticipated scientificdisagreement with the FDA” regarding1

the implications of the Rat Study did not“give rise to a strong inference of scienter.”
Plaintiffs appealed.

Arena Had a Duty to Disclose theRat Study Because It Chose to
Discuss Other Animal Studies
The Ninth Circuit found the question of
Arena’s obligation to disclose the Rat Studypresented a “close case” under the federal
securities laws. Arena II, 2016 WL 6246875.
The court stated that “[d]efendants may nothave had a duty to disclose the Rat Study
had they not been representing that animalstudies supported lorcaserin’s safety andtherefore its likelihood of being approved”
by the FDA. However, the Ninth Circuit
determined that “once they raised theanimal studies, [d]efendants were obligatedto disclose the Rat Study’s existence tothe market.”
The court explained that under the Supreme
Court’s decision in Matrixx Initiatives v.
Siracusano, 563 U.S. 27 (2011), “companies
can control what they have to disclose under[the securities laws] by controlling what they
say to the market” (quoting Matrixx, 563 U.S.
27). Once a company opts to “tout” positive
information to the market, the company
is then “bound to do so in a manner thatwouldn’t mislead investors” (quoting Berson
v. Applied Signal Tech., 527 F.3d 982 (9thCir. 2008)). Specifically, the company must
“disclos[e] adverse information that cuts
against the positive information.”
Here, the Ninth Circuit found that “oncedefendants chose to tout lorcaserin’s likely
approval by referencing allegedly positive
animal and preclinical studies, they werebound to do so in a manner that wouldn’t
mislead investors as to potentially negative
information within their possession.” Thecourt observed that “Arena was free toexpress confidence in FDA approval” andeven “might have represented that [it] wasworking through some requests from the FDA
and was confident the data would vindicate
lorcaserin.” What the company “could not do
was express confidence by claiming that all of
the data was running in lorcarserin’s favor,”
because “[i]t was not.”
The Ninth Circuit rejected defendants’ claimthat the allegations reflected merely “a goodfaith scientific disagreement between the
FDA and Arena about the meaning of the Rat
Study.” The court explained that “the simple
fact that Arena had an explanation for its viewof the data d[id] not mean investors would
not want to know that Arena and the FDA
were at odds” concerning the implications of
the Rat Study. The court reasoned that “Arena
could have remained silent about the disputeor it could have addressed its discussions
with the FDA head-on[,] [b]ut it could not
represent that there was no controversy here
because all the data was favorable.”

Plaintiffs Sufficiently
Alleged Scienter
The Ninth Circuit found plaintiffs had“alleged scienter with sufficient particularity
to survive a motion to dismiss.” The court
explained that plaintiffs’ “theory of fraud[was] not that [d]efendants intentionally
misled the market about the objective safetyof lorcaserin” but rather, that “[d]efendants
intentionally withheld information material tothe market’s assessment of whether and when
the FDA would likely approve lorcaserin.”
Here, the court found “no question” that
defendants allegedly “knew that the Rat
Study existed” but made no mention of thestudy when representing that animal studies
supported lorcaserin’s safety.

2Northern District of California:
Broad Statements Concerning
the Success of Merger
Integration Efforts Constitute
Inactionable Puffery
On November 14, 2016, the Northern Districtof California held broad optimistic statements
concerning the success of post-merger
integration efforts are inactionable under the
securities laws. Fadia v. FireEye, 2016 WL
6679806 (N.D. Cal. 2016)(Davila, J.). The court explained that “CEOsand executives of companies that merge
with or acquire other companies often
describe ongoing mergers as smooth, rapid,
and successful,” statements “which courts
regularly deem corporate puffery” rather
than actionable misrepresentations.
The court further held insider stock sales,
standing alone, do not raise a strong
inference of scienter. Finally, the court foundplaintiffs may rely on the core operations
theory for scienter purposes only if they
provide “detailed and specific allegations
about the management’s exposure to factual
information within the company.”

Optimistic Generalized Statements
Concerning the Progress of Merger
Integration Efforts Are Not
Actionable Misrepresentations
Plaintiffs alleged that FireEye, a cybersecurity
company, “falsely represented” that its postmerger integration efforts with MandiantCorporation were “progressing successfully.”
For example, FireEye stated that the
combination was a “natural extension” of astrategic partnership” and that the companies’
product synergies were “very strong.”
Plaintiffs claimed that the integration was
in fact “going quite poorly.”
The court held the statements at issue were
not actionable misrepresentations but
rather, “examples of corporate optimism”
that fell into the category of inactionablepuffery. The court explained that puffery“differs significantly” from a material
misrepresentation because puffery is merely“an expression of opinion.” The court
noted that under Ninth Circuit precedent,“investors do not rely on puffery when making
investment decisions” (citing In re Cutera
Sec. Litig., 610 F.3d 1103 (9th Cir. 2010)).
The court found that other courts have
similarly rejected securities fraud claims
based on optimistic statements concerning
merger integration efforts. For example, in
In re Level 3 Comm. Sec. Litig., 667 F.3d
1331 (10th Cir. 2012), the Tenth Circuit
found “broad claims by defendants regarding
integration efforts” to be “non-actionable.”
The Tenth Circuit reasoned that “[t]hese are
all the kind of rosy affirmations commonly
heard from corporate managers . . . thatare so vague, so lacking in specificity . . .
that no reasonable investor could find them
important.”

Defendants’ Stock Sales Did Not
Raise a Strong Inference of Scienter
The court rejected plaintiffs’ assertion that
defendants’ stock sales were “large andsuspicious enough to support an inferenceof scienter.” The court explained that“[u]nusual or suspicious stock sales bycorporate insiders may serve as circumstantial
evidence of the requisite scienter . . . only
if the insider trading is dramatically out ofline with prior trading practices at times
calculated to maximize the personal benefit
from undisclosed inside information.” Whilethe court recognized that stock sales canprovide “viable circumstantial evidence of
scienter,” the court underscored that “stock
sales alone cannot create a strong inferenceof scienter.”Here, plaintiffs alleged that three defendants
sold stock amounting to 17.6%, 8.7%, and
15% of their respective total holdings. The
court found these percentages insufficient toindicate scienter, noting that other “courts
have held that higher percentages of stock
sales failed to raise a strong inference of
scienter.” The court also observed that theNinth Circuit had previously “caution[ed]against inferring scienter simply because theamount and percentages of the sales [were]large” (citing No. 84 Employer-Teamster
Joint Council Pension Trust Fund v.
American West Holding, 320 F.3d 920(9th Cir. 2003)).

3

In the case before it, the court found it
significant that “[d]efendants sold their
FireEye stock only during the secondary
public offering, had no prior trading history,
and retained a majority of their shares.”
The court noted that plaintiffs did not allege“accounting irregularities” or “dubious
business practices” to support allegationsof suspicious stock sales. Moreover, there
were “no allegations of GAAP violations,and certainly no evidence that indicate[d][d]efendants were informed to delay
disclosures of their earnings reports.”

Plaintiffs Failed to Raise a Strong
Inference of Scienter Under theCore Operations Theory
Finally, the court held plaintiffs “fail[ed] toraise a strong inference of scienter under thecore operations theory.” The court explainedthat under this theory, “the role of corporate
officers and their access to information may
support a strong inference of scienter” only “ifsupported by detailed and specific allegations
about the management’s exposure to factual
information within the company.” The court
noted that such “particularized allegations”
can only be dispensed with in the “rarecircumstances . . . where the nature of therelevant fact is of such prominence that it
would be absurd to suggest that management
did not have knowledge of it.”Here, plaintiffs argued that scienter could
be inferred from the fact that “[d]efendants
were high level corporate officers [who]attended board meetings, had a ‘hands-on’
management style, and could access FireEye’s
reports, press releases, public filings, andother statements.” The court deemed these
allegations “informative” yet insufficient toestablish a strong inference of scienter. The
court found that “[a]t a minimum, [p]laintiffs
needed to have provided information about
precisely what was said by the parties inthese meetings, which facts the [d]efendants
were exposed to, and why this exposure
support[ed] an inference of scienter.” Thecourt further held plaintiffs failed to “provide
evidence that suggest[ed] the current
circumstances [were] somehow rare, which
justifies an inference of scienter without
particularized allegations.”

Delaware Chancery Court:
Directors Did Not Act in
Bad Faith in Approving aControlling Stockholder’s
Takeover Offer Even Thougha Higher Third-Party Offer
Was on the Table
On October 10, 2016, the Delaware Chancery
Court rejected allegations that the directorsof Books-a-Million had acted in bad faith byapproving a controlling stockholder’s goingprivate offer instead of pursuing a higher
third-party offer. In re Books a Million, 2016
WL 5874974 (Del. Ch. 2016) (Laster, V.C.).
The court found that even when parties follow
the Delaware Supreme Court’s framework in
Kahn v. M&F Worldwide, 88 A.3d 635(Del. 2014) (MFW), plaintiffs can stillchallenge the transaction on bad faithgrounds.1 However, the court determinedthat approving a controlling stockholder’soffer over a higher third-party offer is not
sufficient, standing alone, to support aninference of bad faith because third-party
offers incorporate a control premium andare therefore not “fairly comparable” tocontrolling stockholder offers.

Background
In January 2015, the Anderson Family, thecontrolling stockholder of Books-a-Million,
proposed to acquire all outstanding sharesof Books-a-Million that it did not alreadyown at a premium over the trading price.
The Anderson Family conditioned the
proposal on compliance with the MFW
framework, including approval by a special
committee of independent directors andapproval by a majority of the minority
shareholders. A third party subsequently
offered to purchase all shares of Books-aMillion, including the Anderson Family’sshares, at a higher price than the Anderson
Family’s offer (“Party Y’s offer”). The special
committee did not pursue Party Y’s offer,
but instead decided to negotiate with theAnderson Family. The special committee
ultimately approved the Anderson Family’soffer, and a majority of the minority
stockholders approved the transaction.
1. Please click here to read our prior discussion of the Delaware
Supreme Court’s decision in MFW.
4

Certain Books-a-Million stockholders
subsequently brought the instant action
claiming that the company’s directors,
together with the Anderson Family andseveral of the company’s officers, breachedtheir fiduciary duties in connection withthe merger.

Plaintiffs Can Challenge
Transactions Subject to the MFW
Framework on Bad Faith Grounds
One of the requirements of the MFW
framework is that the members of the special
committee formed to review the transaction
are independent and disinterested.
Plaintiffs claimed that even though themembers of the special committee formed
to review the transaction “appeared to be
independent,” their purported independence
and disinterestedness was “belied by their
bad faith actions” in “recommending theAnderson Family’s offer.”
The Chancery Court observed that it was “notimmediately clear how an argument regarding
bad faith fits within the [MFW] framework.”
The court noted that in MFW, the Delaware
Supreme Court “did not discuss whether aplaintiff could seek to call into question the
independence of a director by contendingthat although appearing independent, thedirector did not in fact act independently forthe benefit of the stockholders.” However,the Books-a-Million court found the Chancery
Court’s opinion in the MFW case left open thepossibility of such an argument.2
The Books-a-Million court determined that“the difficult route of pleading subjective
bad faith is [a] theoretically viable meansof attacking the [MFW] framework.” Thecourt reasoned that “[t]his makes sense,
because pleading facts sufficient to support
an inference of subjective bad faith is oneof the traditional ways that a plaintiff canestablish disloyalty sufficient to rebut thebusiness judgment rule.”

2. The Chancery Court in MFW stated that there was “no basis toinfer” that the special committee “did not attempt in good faith toobtain the most favorable price they could secure for the minority
or believe they had done so.” In re MFW S’holdrs. Litig., 67 A.3d496 (Del. Ch. 2013).

Special Committee’s Failure to
Pursue a Higher Third-Party Offer
Did Not Support an Inference of
Bad Faith
Plaintiffs contended that the independent
directors’ “failure to pursue Party Y’s offer
support[ed] an inference that the independent
directors disloyally favored the interestsof the Anderson Family” over those of theminority stockholders.
In considering plaintiffs’ bad faith claims,
the Chancery Court relied on its priordecision in Mendel v. Carroll, 651 A.3d 297(Del. Ch. 1994), which involved an analogous
fact pattern. The Mendel court explainedthat “it is widely understood that buyers ofcorporate control will be required to pay
a premium above the market price for thecompany’s traded securities.” The court
found that the third-party offer at issue
was “an offer, in effect, to the controllingshareholder to purchase corporate control,
and to all public shareholders, to purchasethe remaining part of the company’s shares,
all at a single price.” The third party’s offer“distributed the control premium evenly over
all the shares.” The Mendel court determinedthat the third-party offer on the table was“not fairly comparable to the per-share priceproposed” by the controlling stockholder
because the controlling stockholder was “notbuying corporate control.”
The Mendel court also outlined the scope of
directors’ duties when weighing a controllingstockholder’s offer against a third-party

5

offer. The court stated that the board must
“respect the rights” of the controllingstockholders, including the right not to sell
their shares, while at the same time ensuringthat any transaction “would be accomplishedonly on terms that were fair to the publicstockholders.” The court explained that
directors may “take extraordinary steps toprotect the minority from plain overreaching”
by the majority stockholder, but they may not“deploy corporate power against the majority
stockholder[], in the absence of a threatened
serious breach of fiduciary duty by thecontrolling stock[holder].”
Applying the reasoning set forth in Mendel,
the Books-a-Million court stated that it could“reasonably infer that Party Y’s offer was
higher because Party Y was seeking to acquire
control and that the Anderson Family’s offer
was lower because it took into account thefamily’s existing control over the [c]ompany.”
Books-a-Million, 2016 WL 5874974. Although
the court noted that that it was “not possible
to infer the exact amount of the premium or
discount” of control, the court determinedthat the Anderson Family’s “bargained-for
consideration” fell “within a rational rangeof discounts and premiums.” The court
reasoned that the “difference” between thetwo offers was “not so facially large as tosuggest that the [special committee] wasattempting to facilitate a sweetheart deal for
the Anderson Family.”The court also observed that the Anderson
Family’s insistence on “[a]ppraisal [rights]
act[ed] as a further check on expropriationby the Anderson Family,” because a court
would “exclude any minority discount”
when appraising the shares. In addition, thecourt found it significant that the Anderson
Family’s offer represented a sizable premium
over the trading price. The court reasoned
that the special committee “rationally could[have] believe[d] that stockholders might
prefer liquidity at a premium to market.”
The court concluded that plaintiffs’
allegations did “not support a reasonable
inference that the [special committee had]
acted in bad faith” in approving the Anderson
Family’s offer.

The Securities Law Alertis edited by Paul C. Gluckow
pgluckow@stblaw.com /+1-212-455-2653, Peter E. Kazanoffpkazanoff@stblaw.com /+1-212-4553525 and Jonathan K. Youngwood
jyoungwood@stblaw.com /+1-212-455-3539.

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