In In re Gilead Sciences Securities Litigation, 536 F.3d 1049 (9th Cir. 2008), a three-judge panel of the United States Court of Appeals for the Ninth Circuit reversed the dismissal of a securities fraud complaint that the district court had held failed to plead loss causation due to the passage of time between the disclosure of the alleged fraud and the drop in the company’s stock price. The Ninth Circuit held that the delay in market reaction was not dispositive because, according to plaintiffs, the analysts and investors were unaware of the financial impact of the matters discussed in the corrective disclosure until after the company issued its quarterly financial results. This decision comes just two weeks after another panel of the same court cautioned, based on similar facts, that “[e]nabling a plaintiff to proceed on such a theory would effectively resurrect what Dura [Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005),] discredited.” Metzler Investment GMBH v. Corinthian Colleges, Inc., 2008 WL 2853402 (9th Cir. July 25, 2008, amended Aug. 26, 2008) [See blog article].

Gilead emerged out of a marketing campaign undertaken by the defendant corporation, a pharmaceuticals company, to promote its primary product, Viread. Plaintiffs alleged that Gilead artificially increased demand for Viread by marketing it for off-label use, despite prohibitions on such marketing by the Food and Drug Administration (“FDA”), and in spite of representations by the company that it complied with all state and federal laws. Two years into its marketing campaign, Gilead received a warning letter from the FDA chastising the company for its aggressive marketing tactics and requiring it to correct prior statements made at a medical convention regarding the product’s off-label uses. One week later, the FDA disclosed the warning letter to the public. Gilead’s stock price was unaffected by the disclosure and the company made no further statements regarding its marketing practices or the FDA letter. Nearly three months later, Gilead issued its quarterly financial results. Those results disappointed the market, resulting in a decline in the stock price.

Plaintiffs alleged that the FDA disclosure of the warning letter was not a full corrective disclosure of the alleged fraud because investors and analysts did not “appreciate” the “full extent of Gilead’s off-label marketing” and “misunderstood” the letter’s significance. Plaintiffs further alleged that the full extent of the alleged fraud was not disclosed until the company issued lower than expected third quarter earnings. The district court rejected this attempt to plead loss causation because, inter alia, it found it “implausible” to infer “that the alleged decrease in sales due to the FDA letter proximately caused Gilead’s stock to decrease three months later.”

The Ninth Circuit disagreed, holding that plaintiffs had pled sufficient facts regarding loss causation to survive the pleading stage. Because, the court held, “it is not unreasonable that physicians — the targets of the off-label marketing — would respond to the Warning Letter while the public failed to appreciate its significance,” it was not implausible to view the quarterly results as an additional corrective disclosure which caused a stock price drop.

The panel’s decision in Gilead contrasts markedly with the Ninth Circuit’s decision issued just two weeks earlier (and reissued as amended two weeks later) in Corinthian Colleges. In Corinthian Colleges, the same court declined a similar invitation from plaintiffs to find that a corporate disclosure that did not mention the alleged fraud was a “corrective disclosure,” cautioning:

So long as there is a drop in a stock’s price, a plaintiff will always be able to contend that the market “understood” a defendant’s statement precipitating a loss as a coded message revealing the fraud. Enabling a plaintiff to proceed on such a theory would effectively resurrect what Dura discredited — that loss causation is established through an allegation that a stock was purchased at an inflated price. Loss causation requires more.

Corinthian Colleges, slip op. at 11694. Gilead does not address the holding in Corinthian Colleges.

Defendants in Gilead filed a petition for rehearing and review en banc on September 2, 2008. As such, the decision has no precedential value and is not binding on the district courts at this time. Even if the Ninth Circuit does permit the decision to stand, however, it is unlikely to have a wide impact in other cases. In In re Daou Systems, Inc., 411 F. 3d 1006 (9th Cir. 2005), the Ninth Circuit held that, in some instances, plaintiffs may rely on analyst reports and press releases that do not expressly mention the alleged misconduct to plead loss causation. In Corinthian Colleges, the Ninth Circuit cautioned that such circumstances must be rare or courts will “effectively resurrect what Dura discredited.” In Gilead, the panel held that one such rare circumstance is where the initial disclosure is so obscure or complex that its financial impact cannot be understood by financially sophisticated analysts or investors without benefit of additional explanation and the company’s actual financial results.