The Second Circuit recently affirmed a lower court’s dismissal of a securities class action brought against Axonyx, Inc. under Section 10(b) of the Securities Exchange Act of 1934 on the ground that the class plaintiffs failed to plead facts giving rise to a strong inference of scienter.  

By way of background, shareholders sued Axonyx and certain of its officers and directors, alleging that the company issued a series of “artificially positive statements about the first Phase III trial of the Alzheimer’s drug Phenserine.” The investors claimed that Axonyx misrepresented facts regarding the nature, quality, reliability and design of its Phase III trial for Phenserine, and that the purpose of the misstatements was to inflate the stock price of Axonyx. In particular, the shareholder plaintiffs alleged that management purposefully inflated the stock price so that the Chief Operating Officer could sell 30% of his holdings during the class period (at a profit of $1.5 million) and the Chief Executive Officer could sell 5% (at a profit of $766,000).

Any complaint alleging securities fraud must state with particularity the circumstances constituting the fraud. Under Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (2007), the Private Securities Litigation Reform Act requires the allegations of scienter (i.e., the intent to defraud), to be “more than merely plausible or reasonable—the allegations must be cogent and at least as compelling as any opposing inference of nonfraudulent intent.”

The district court found that the investor plaintiffs failed to allege sufficient facts to state a claim that Axonyx and its officers purposely misled investors regarding the Phase III trial for Phenserine and/or the likelihood that it would be successful as a drug to treat Alzheimer’s. With regard to the insider stock sales, the district court found that the executives still retained the vast majority of their Axonyx stock holdings and the plaintiffs had not adequately alleged that the sales were suspicious in timing or amount.

The Second Circuit affirmed the lower court’s dismissal of the complaint for failure to plead facts giving rise to a strong inference of scienter. In particular, the Second Circuit agreed with the district court’s conclusions that the complaint lacked sufficient detail regarding the alleged misstatements regarding defects in Axonyx’s Phase III trial for Phenserine. The district court found that the allegations in the complaint supported the defendants’ position that Axonyx designed the Phase III trial to the best of its ability and that the company at all times believed Phenserine would prove to be effective at treating Alzheimer’s disease. The Second Circuit agreed, finding that “any inference in the complaint of scienter is less compelling than any opposing inference that Axonyx’s trial of Phenserine was merely unsuccessful.” (City of Dearborn Heights Act 345 Police & FireR v. Axonyx, Inc., No, 09-1773-cv, 2010 WL 1049233 (2d Cir. March 23, 2010))