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Mahoney v. Foundation Medicine, Inc.

United States District Court, D. Massachusetts

September 20, 2018

MARC F. MAHONEY, individually and on behalf of all others similarly situated, Plaintiff,
v.
FOUNDATION MEDICINE, INC., MICHAEL J. PELLINI, STEVEN KAFKA, JASON RYAN, VINCENT MILLER, and DAVID DALY, Defendants.

          ORDER ON MOTION TO DISMISS (DOC. NO. 26)

          Leo T. Sorokin United States District Judge.

         Lead Plaintiff John A. Blair[1] (“Plaintiff”), individually and on behalf of all others similarly situated, [2] filed an Amended Class Action Complaint (the “Amended Complaint”) alleging violations of Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5, 17 C.F.R. § 240.10b-5, against all above-captioned Defendants (Count I), and violation of Section 20(a) of the Exchange Act, 15 U.S.C. § 78t(a), against Defendants Michael J. Pellini, Steven Kafka, Jason Ryan, Vincent Miller, and David Daly (the “individual Defendants”) (Count II). Doc. No. 19. Defendants move to dismiss the Amended Complaint in its entirety and with prejudice. Doc. No. 26. After full briefing, a hearing was held on the motion on September 13, 2018. For the reasons that follow, the Court ALLOWS Defendants' motion.

         I. BACKGROUND

         The Court recites facts alleged in the Amended Complaint, Doc. No. 19, which the Court accepts as true, making all reasonable inferences in favor of the Plaintiff, for purposes of considering Defendants' motion to dismiss. See Watterson v. Page, 987 F.2d 1, 3 (1st Cir. 1993).

         Defendant Foundation Medicine, Inc. (“Foundation”) develops, manufactures, and sells diagnostic tests that identify genomic mutations associated with cancer. Doc. No. 19 ¶¶ 2, 15. During the Class Period, Foundation offered two flagship products: FoundationOne, launched in June 2012, which detects genomic alterations in solid tumors, and FoundationOne Heme, launched in December 2013, which detects genomic alterations for patients with hematologic cancers. Id. ¶ 31-32. When the tests, which the company described as “the first commercially available comprehensive molecular information products for analysis of routine cancer specimens in a clinical setting, ” id. ¶ 2, were launched, government insurance programs such as Medicare did not cover Foundation's tests, and private insurance only covered the tests to a limited extent. Id. ¶ 37.

         During the Class Period, individual Defendants, who served as Foundation officers and directors, made various statements about the company's performance in press releases, public filings, and earnings calls. Throughout 2014, Foundation reported steadily increasing revenue and clinical test volumes. Foundation cited “the value that ordering physicians see in our approach” and “strong sales and volume increases.” Id. ¶ 43. Defendants explained throughout 2014 that Foundation's sales trajectory involved initial uptake “from the major academic medical centers, the key opinion leaders” and a subsequent “migrat[ion] [of the tests] into the community setting” after the testing “became a little bit more well known” and “started to leak out into the community, often in a regional way around [the] leading academic medical centers[.]” Id. ¶¶ 49, 142.

         However, despite Foundation's positive statements to investors throughout 2014, community-based physicians were not adopting Foundation's tests to the extent anticipated. Foundation suffered from “competitive noise” from single-marker and hotspot diagnostic tests as well as from new entrants to the market. Id. ¶ 55. Physicians were opting for single-market and hotspot tests that were less expensive and covered by both Medicare and private payors. Id. ¶ 81. Additionally, physicians found Foundation's tests to be of limited utility, because few of the genes that the tests identified corresponded to a drug treatment and because the physicians lacked knowledge of how to interpret how to interpret the tests' results. Id. ¶¶ 56-57. In February 2014, Foundation ceased its prior practice of reporting the specific number of physicians that ordered its tests, claiming to analysts on the earnings call that it “elected not to continue to just state … the number of overall physicians ordering the tests” because Foundation continued to “refine the metrics that we will give the investor community.” Id. ¶¶ 57, 122.

         Despite these issues, in February 2015, reporting a number of tests performed in 2014 that was at the high end of Foundation's forecasted range, id. ¶ 48, Pellini stated in a press release that growth rates for fourth quarter 2014 “highlight[ed] the broad adoption of our comprehensive genomic profiling approach.” Id. ¶ 191. The press release announced guidance for 2015, anticipating between 43, 000 and 47, 000 clinical tests and revenue between $105 and $115 million. Id. On a February 24, 2015, call discussing the 2014 results, Defendant Pellini made positive statements about the likelihood of obtaining Medicare reimbursement, stating that “we continue to believe it is a matter of when.” Id. ¶ 197.

         But beginning in May 2015, Foundation made a series of disclosures that tempered analysts' and investors' outlook. On May 11, 2015, Foundation announced a first quarter of 2015 clinical test volume of 7, 854 tests. Id. ¶ 82. On the earnings call, Defendants said the test volume was due to “increased confusion in the marketplace, ” making it “difficult for some oncologists and pathologists to differentiate today between the various tumor profiling assays and to determine which test is most appropriate for a particular patient.” Id. ¶¶ 83. Defendant Daly cited “bold and misleading marketing statements from companies” that claimed to rival Foundation's tests. Id. ¶ 214. Pellini pointed to new market entrants in next-generation sequencing-based testing and liquid biopsy-based testing. Id. ¶ 215. Daly noted the importance of the reorder rate among community-based physicians and Foundation's focus “on ensuring the actionability of the results that we provide.” Id. ¶ 218.

         On the same call, Foundation also acknowledged a “slight decrease” in the average reimbursement per clinical test to $3, 400. Id. ¶ 84. Ryan explained that “[s]ome level of volatility in this number is to be expected before we gain broader reimbursement coverage.” Id. ¶ 212. Foundation cited a January 23, 2015, draft local coverage determination issued by Palmetto GBA, LLC (“Palmetto”) as grounds for optimism. Id. ¶ 84. Palmetto, a Medicare Administrative Contractor (“MAC”) based in South Carolina, had issued a draft determination for “comprehensive genomic profiling” for non-smoker patients with stage IIIB or IV non-small cell lung cancer and who had already tested negative for certain genomic mutations. Id. ¶ 73. Because Palmetto enjoyed a reputation as having a leading role in molecular diagnostics coverage and reimbursement, id. ¶ 74, Foundation called its determination “an important step.” Id. ¶ 84. Moreover, Foundation maintained its 2015 guidance of expected revenue of between $105 and $115 million and expected clinical market tests (excluding those ordered by Foundation's biopharmaceutical partners) of between 43, 000 and 47, 000 tests. Id. ¶ 85. The following day, May 12, 2015, Foundation's stock price fell by 9.8 percent, or $4.33, to $39.66 per share, on unusually heavy volume. Id. ¶¶ 86, 226.

         On July 29, 2015, Foundation reported financial results for the second quarter of 2015, including 8, 846 clinical tests, short of analysts' forecast of 9, 770 tests. Id. ¶ 87. Foundation cited “slower than anticipated progress towards obtaining a local coverage determination from [NGS] and by some competitive noise in the market.” Id. Upon this report, Foundation announced a material downward adjustment of its 2015 guidance, to between $85 million and $95 million in revenue and between 35, 000 and 38, 000 tests. Id. During the earnings call, Defendants told investors that Foundation was not seeing “the commonly observed carryover effect from [the Palmetto draft determination] that we would typically expect to see in the field, ” while also noting that “there was no direct precedent for this approach.” Id. ¶ 88. Pellini informed investors that its prior 2015 guidance for clinical volume testing assumed having a local coverage determination for a portion of Medicare cases in place and that Foundation was “no longer assuming any Medicare payment for the rest of 2015.” Id. Ryan noted that the “changes to guidance are driven by a shift in our assumptions around the timing of Medicare payments, the associated effect that a [local coverage determination] can have on non-Medicare volumes, and some of that competitive noise [in] the marketplace related to hotspot-based testing.” Id. ¶ 89. Following these announcements, Foundation's stock price fell by 24 percent on June 30, 2015 (by $7.00, to $22.30 per share) and another nine percent on July 31, 2015 (by $2.00, to $20.20 per share), on abnormally high trading volume. Id. ¶¶ 91, 240. Foundation's August 7, 2015 filing of Form 10-Q for the second quarter of 2015 listed the company's previously-announced financial results and clinical test volume numbers. Id. ¶¶ 241-42.

         On November 3, 2015, the last day of the Class Period, Foundation reported disappointing revenue and a clinical test volume of only 8, 102 tests for the third quarter of 2015. Defendants attributed this third straight quarter of missed estimates to a slowdown in reorder rates, sparing use of Foundation's tests by oncologists, and difficulty in harnessing the test results. Id. ¶ 94. As a result, Foundation again downwardly adjusted its 2015 testing volume guidance to between 32, 000 and 33, 000 tests. Id. On the earnings call, Defendant Ryan reported that the average reimbursement per clinical test recognized in revenue fell from $3, 400 to $3, 200. Id. ¶ 253. After these announcements, Foundation's share price fell by 28 percent (by $6.62, to $17.31) on unusually heavy volume. Id. ¶¶ 96, 261.

         Plaintiff's Amended Complaint enumerates numerous statements and omissions during the Class Period that Plaintiff alleges were materially false and misleading. The alleged misrepresentations generally include positive and encouraging statements about Foundation's tests, statements about Foundation's competitive advantage and growth prospects, and statements about anticipated Medicare coverage and reimbursement. Id. ¶ 105. The alleged omissions generally include the extent of competitive pressures that negatively affected test volumes and the lack of clinical utility of the tests. Id. Separately, Plaintiff alleges omissions in violation of Item 303 of Regulation S-K, 17 C.F.R. § 229.303 (“Item 303”), which requires the disclosure of all “known trends … that have had or that the registrant reasonably expects will have a material … unfavorable impact on … revenues.” Plaintiff alleges that Defendants failed to disclose, in Foundation's SEC filings during the Class Period, the rejection by community-based oncologists of Foundation's tests, the competition from academic medical centers and other diagnostic tests, the unwillingness by clinicians to order Foundation's tests without secured reimbursement, and Foundation's inability to obtain reimbursement for more than just one of the six clinical indications for which it was sought. Doc. No. 19 ¶ 109.

         Plaintiff alleges that these various statements or omissions were materially false and misleading because Foundation's tests lacked the reported commercial demand; because the tests lacked the clinical utility that might drive such demand and provide oncologists with valuable treatment information; because Defendants artificially boosted clinical test volumes to create the appearance of widespread adoption by providing oncologists with various undisclosed incentives and discounts; because Defendants overstated the average revenue per clinical test that it expected to receive; because Defendants could not obtain broad Medicare reimbursement for each of the six clinical indications; and because Defendants ceased to report the actual number of test-ordering physicians each quarter. See, e.g., id. ¶ 129.

         Plaintiff claims that the alleged statements and omissions constituted a fraudulent scheme to artificially inflate the price of Foundation common stock and operated as a fraud or deceit on investors who purchased Foundation common stock during the Class Period. Id. ¶ 268. The Amended Complaint alleges that Foundation made a series of partial disclosures that avoided a swifter and steeper stock price decline that would have resulted from full disclosure of the facts adverse to Foundation's business prospects. Thus, purchasers of Foundation common stock suffered damages by purchasing stock at artificially high share prices as a result of Defendants' misrepresentations and omissions and sustaining losses upon subsequent market revelations. Id. ¶¶ 275-80. In addition, Plaintiff claims that the individual Defendants, except Defendant Daly, sold, during the Class Period, about $21 million of their personally held Foundation stock at artificially inflated prices that were the result of their conduct during the Class Period. Id. ¶ 293.

         II. ...


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