Can the filing of a judicial complaint against a company constitute a revelation of the alleged fraud sufficient to establish loss causation? In Norfolk Country Retirement System v. Community Health Systems, Inc., 2017 WL 6347726 (6th Cir. Dec. 13, 2017), the court addressed this question in a case alleging that Community Health Systems failed to disclose that it used a system called the “Blue Book” to improperly increase the number of inpatient services provided at its hospitals and overcharge Medicare. The plaintiffs alleged that this practice was revealed to the market when another healthcare company, Tenet Healthcare, filed a suit against Community. Community’s stock price subsequently fell by 35%.
The district court held that Tenet’s complaint could not have revealed the truth behind Community’s prior alleged misrepresentations because a complaint can only reveal allegations rather than truth. On appeal, the Sixth Circuit disagreed that this should be a “categorical rule.” Instead, each alleged corrective disclosure must be evaluated “individually (and in the context of any other disclosures) to determine whether the market could have perceived it as true.”
In this case, the panel found that “two aspects of the Tenet complaint set it apart from most complaints for purposes of that determination.” First, following the filing of the complaint, Community’s CEO “promptly admitted the truth of one of the complaint’s core allegations, namely that Community had used the Blue Book to guide inpatient admissions.” Second, the Tenet complaint included expert analyses that described “the extent to which the Blue Book inflated revenues and exposed the company to liability.”
While the defendants argued that the existence of the Blue Book and Community’s admissions data were publicly available information, the panel concluded that it “quite plausibly came as news to investors” that Community was inflating its inpatient admissions in ways that were clinically improper. Under these circumstances, the panel found that the plaintiffs had “plausibly alleged corrective disclosures that revealed the defendants’ antecedent fraud to the market and thereby caused the plaintiffs’ economic loss.”
Holding: Dismissal reversed and case remanding for further proceedings.
Quote of note: “As an initial matter, every representation of fact is in a sense an allegation, whether made in a complaint, newspaper report, press release, or under oath in a courtroom. The difference between those representations is that some are more credible than others and thus more likely to be acted upon as truth. Statements made under oath are deemed relatively credible because the speaker typically makes them under penalty of perjury. And a defendant’s own admissions of wrongdoing are credible because they are statements against interest. Mere allegations in a complaint tend to be less credible for the opposite reason, namely that they are made in seeking money damages or other relief. But these are differences of degree, not kind, and even within each type of representation some are more credible than others. Hence we must evaluate each putative disclosure individually (and in the context of any other disclosures) to determine whether the market could have perceived it as true.”