Order Code RS22038
Updated May 11, 2005
CRS Report for Congress
Received through the CRS Web
Securities Fraud: Dura Pharmaceuticals, Inc.
American Law Division
On June 28, 2004, the United States Supreme Court granted certiorari in the case
Dura Pharmaceuticals, Inc. v. Broudo, appealed from the United States Court of
Appeals for the Ninth Circuit.
The case concerns allegedly false statements made by Dura to its shareholders
concerning development and marketing of two of its products: an asthma inhaler and
asthma antibiotic. Plaintiffs charge that the company knowingly defrauded investors by
making overly optimistic statements about product approval and company earnings.
The district court held that plaintiffs had not satisfied the requirements for bringing
an antifraud case under section 10(b) of the Securities Exchange Act of 1934. The court
of appeals stated that the district court erred in applying the federal law for pleading a
securities fraud case and reversed and remanded the judgment of the district court. The
United States Supreme Court heard oral argument on January 12, 2005. On April 19,
2005, the Supreme Court reversed the decision of the circuit court and held that an
accusation that a company’s misrepresentations caused an inflated share price was
insufficient as a basis for a lawsuit.
On June 28, 2004,, the United States Supreme Court granted certiorari in the case
Dura Pharmaceuticals, Inc. v. Broudo,1 appealed from the United States Court of
Appeals for the Ninth Circuit.2
Defendant Dura Pharmaceuticals is a publicly traded company which develops and
markets prescription pharmaceuticals for treating allergies and asthma. Plaintiffs are
investors who purchased Dura stock between April 15, 1997, and February 24, 1998.
During this period Dura made statements about two products which it developed and
sold: 1. Albuterol Spiros, a mechanical inhaler administering asthma medication and 2.
Ceclor CD, an asthma antibiotic. Despite experiencing problems with the development
Broudo v. Dura Pharmaceuticals, Inc., 339 F.3d 933 (9th Cir. 2003).
Congressional Research Service ˜ The Library of Congress
of the inhaler and despite experiencing declines in sales of Ceclor, Dura released a
number of optimistic public statements. During the period in question, Dura’s stock
reached a high of $53 per share. On February 24, 1998, Dura stated that it expected lower
than forecast 1998 revenues and earnings per share because of, among other reasons,
inhaler cost overruns and slower than anticipated sales of Ceclor CD. Dura’s stock
dropped 47% the next day, and its business declined during the remainder of 1998.
Also, during the time period Dura executives sold approximately $400 million of
personally held Dura stock. Plaintiffs claim that these actions were insider trading and
proved that Dura knowingly misrepresented the state of its business to investors.
Plaintiffs brought their suit under section 10(b) of the Securities Exchange Act of
1934.3 This provision states:
It shall be unlawful for any person, directly or indirectly, by the use of any
means or instrumentality of interstate commerce or of the mails, or of any facility of
any national securities exchange–
(b) To use or employ, in connection with the purchase or sale of any security
registered on a national securities exchange or any security not so registered, or any
securities-based swap agreement (as defined in section 206B of the Gramm-LeachBliley Act), any manipulative or deceptive device or contrivance in contravention of
such rules and regulations as the Commission may prescribe as necessary or
appropriate in the public interest or for the protection of investors.
The United States District Court for the Southern District of California4 initially
dismissed the case without prejudice on the basis that plaintiffs had not stated a claim of
securities fraud because they did not explain why the statements made were false when
made or why the defendants had a duty to disclose. Plaintiffs subsequently filed a Second
Amended Complaint (SAC), which was dismissed by the federal district court with
The SAC does not contain any allegations that the FDA’s non-approval [of the
Albuterol Spiros device] had any relationship to the February price drop.
Accordingly, the SAC does not explain how the alleged misrepresentations and
omissions regarding Albuterol Spiros “touched” upon the reasons for the decline in
Dura’s stock price. Rather, the decline in Dura’s stock price was the result of an
expected revenue shortfall. Accordingly the SAC’s allegations regarding Albuterol
Spiros are insufficient to state a claim.5
The Court of Appeals for the Ninth Circuit began its discussion by stating that it has
been held that for plaintiffs properly to allege a violation of section 10(b), they must
satisfy the following requirements: 1. defendants made a false statement or omission with
regard to a material fact; 2. in connection with the purchase or sale of a security; 3. with
15 U.S.C. § 78j(b).
2000 WL 33176043.
339 F.3d 933, 937.
scienter (knowledge); 4. upon which plaintiffs reasonably relied; and 5. that proximately
caused the alleged loss.6
The Court of Appeals addressed first the issue of loss causation. The court stated
that in the Ninth Circuit loss causation is satisfied when the plaintiff shows that the
“misrepresentation touches upon the reasons for the investment’s decline in value.”7 The
court went on to summarize cases that had held that “[i]n a fraud-on-the-market8 case,
plaintiffs establish loss causation if they have shown that the price on the date of purchase
was inflated because of the misrepresentation.”9 The court believed that in this case
plaintiffs satisfied the requirements of loss causation:
Appellants have pled that the price of the stock was overvalued in part due to the
misrepresentations by Dura and the individual defendants that the development and
testing of the Albuterol Spiros device were proceeding satisfactorily and that FDA
approval of the device was imminent. Accordingly, the district court erred by finding
that appellants failed to plead loss causation sufficient to survive a motion to dismiss
with regard to statements concerning the Albuterol Spiros device.10
The court next addressed the scienter issue and stated that it had to decide whether
the plaintiffs had met the scienter requirement concerning their allegations about Dura’s
Ceclor sales. The Private Securities Litigation Reform Act11 sets forth the pleading
requirements for securities fraud actions. The complaint must “specify each statement
alleged to have been misleading, the reason or reasons why the statement is misleading,
and, if an allegation regarding the statement or omission is made on information and
belief, the complaint shall state with particularity all facts on which that belief is
formed.”12 The plaintiff is required to plead “with particularity facts giving rise to a
strong inference that the defendant acted with the required state of mind.”13 The Ninth
Circuit had summarized the scienter requirement as follows: “The complaint must allege
that the defendant made false or misleading statements either intentionally or with
deliberate recklessness or, if the challenged representation is a forward looking statement,
with ‘actual knowledge...that the statement was false or misleading.’”14
The Ninth Circuit Court of Appeals noted that the district court had considered
separately plaintiffs’ arguments that Dura had made false or misleading statements about
its products and sales and that Dura’s awareness of the inaccuracy of these statements was
evidenced by such actions as sales by executives of their stock. In its consideration
See Binder v. Gillespie, 184 F.3d 1059, 1063 (9th Cir. 1999).
McGonigle v. Combs, 968 F.2d 810, 821 (9th Cir. 1992).
Fraud on the market occurs when a plaintiff can show that he was entitled to rely on the
integrity of the market price for securities bought or sold.
See, e.g., Knapp v. Ernst & Whinney, 90 F.3d 1431, 1438 (9th Cir. 1996).
339 F.3d 933, 939.
P.L. 104-67, 109 Stat. 737 (1995).
15 U.S.C. § 78u-4(b)(1).
15 U.S.C. § 78u-4(b)(2).
In re Vantive Corporation Securities Litigation, 283 F.3d 1079 (9th Cir. 2002).
separately of plaintiffs’ allegations, the district court had concluded that each was
insufficient to show scienter. The court of appeals stated that it had made clear that
allegations of scienter must be considered separately:
Beyond each individual allegation we also consider “whether the total of plaintiffs’
allegations, even though individually lacking, are sufficient to create a strong
inference that defendants acted with deliberate or conscious recklessness.”15
The court of appeals vacated the district court’s finding of no scienter and instructed the
district court on remand to consider collectively the allegations.
Finally, the court of appeals considered the argument that plaintiffs should have been
able to amend the Second Amended Complaint. The court of appeals stated that leave
to amend under Rule 15 of the Federal Rules of Civil Procedure should be liberally
applied. In looking at various statements that plaintiffs wished to include in an amended
complaint, the court of appeals stated that, “[b]ecause it appears that Appellants had a
reasonable chance of successfully stating a claim if given another opportunity, the district
court abused its discretion in denying leave to amend the SAC.”16 The court of appeals
therefore reversed and remanded the judgment of the district court.
On January 12, 2005, the United States Supreme Court heard oral argument. The
wording of the question presented to the Court as filed in the briefs by petitioners and
respondents varies somewhat. Petitioners state that the question presented is whether a
securities fraud plaintiff invoking the fraud-on-the-market theory must demonstrate loss
causation by pleading and proving a causal connection between the alleged fraud and the
investment’s subsequent decline in price. Respondents state the question as whether to
plead loss causation in a section 10(b) open-market fraud case plaintiffs must do more
than plead facts establishing fraud-based inflation and overpayment on the date of their
On April 19, 2005 the Supreme Court Reversed the Ninth Circuit Court of Appeals.
The Court held that the plaintiffs’ complaint concerning the “artificially inflated purchase
price” was legally insufficient.
The Court began its discussion by stating that in fraud-on-the-market cases an
inflated purchase price does not by itself constitute or proximately cause the relevant
economic loss. The Court went on to state that the Ninth Circuit had no precedent among
the other circuit courts for its holding. Further, according to the Court, the Private
Securities Litigation Reform Act requires that a securities fraud complaint specify each
misleading statement, set forth facts which formed the belief that a statement is
misleading, and state with particularity facts providing a strong inference that the
defendant acted with the required state of mind. This act also places the burden of proof
on the plaintiff to show that the defendant’s misrepresentations caused the loss for which
the plaintiff seeks to recover. Thus, according to the Court, the act makes clear that
No. 84 Employer-Teamster Joint Council Pension Trust Fund v. America West Holding
Corporation, 320 F.3d 920, 938 (9th Cir. 2003) (quoting Lipton v. Pathogenesis Corporation, 284
F.3d 1027, 1038 (9th Cir. 2002).
339 F.3d 933, 941.
Congress intended to allow private securities fraud actions for recovery only if the
plaintiffs adequately allege and prove the traditional elements of causation and loss. The
Ninth Circuit’s approach was found to be inconsistent with the law’s requirements, and
its decision was reversed and remanded for further proceedings consistent with the
Supreme Court’s opinion.
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