Financial Poise
Share this...

Massive Failure Equals Massive Litigation? Maybe, Maybe Not

Plaintiffs’ lawyers are, by reputation, aggressive. They have sued over things as small as mis-charged non-residential delivery fees and over things as large as Volkswagen’s use of “defeat device” software to (allegedly) cheat emissions standards. Whether small or large, class-action cases against corporations tend to get filed fast. The EPA made an announcement about Volkswagen’s defeat device software on September 18, 2015. By October 21, 2015, according to Bloomberg News, over 350 cases had already been filed against Volkswagen in courts in at least 41 states.

Which brings us to Theranos. For those who don’t know, Theranos is a venture-capital backed medical technology company specializing in what it calls a “breakthrough” new type of low-cost blood testing. It was founded in 2003 by its CEO Elizabeth Holmes, when she was a 19 year-old Stanford dropout. By 2014, after multiple successful rounds of venture capital fundraising, Theranos was valued at $9 billion, and Holmes was feted as one of the wealthiest people in the world, and as Silicon Valley’s Next Big Thing. Then, on October 15 and 16, 2015, the Wall Street Journal reported that Theranos’ innovative test had only limited utility and questionable accuracy, and that the company was instead using other companies’ existing technology to test blood. This report was followed up by an FDA lab inspection that found, among other things, sloppy record-keeping and a lack of quality control.

The WSJ’s in-depth reporting and the subsequent pile-on have resulted in criminal and civil investigations of Theranos by the Justice Department and the S.E.C, respectfully. So far, though, no reported private lawsuits, which seems impossible. You would think that a startup that has taken in hundreds of millions of dollars in venture capital and with a valuation in the billions would be a ripe target. You might also think that a company that — allegedly — promised a revolutionary new medical test and instead used other companies’ existing technology would be swimming in litigation. As of now, though, you’d be wrong.

Why? The New York Times suggests two possible reasons. First is that Theranos has done nothing wrong, or, at least, nothing actionable. Whatever the WSJ and FDA found, perhaps Theranos made appropriate disclosures and disclaimers to its investors, leaving them without a cause of action. Theranos, for its part, denies any wrongdoing and says that it is fully cooperating with investigators. Second, Theranos’ investors may be “too embarrassed” to sue. Fund managers who put their investors into Theranos may not want their lack of due diligence to come out in discovery, or for Theranos to defend by arguing that the investment managers were contributorily negligent.

These are plausible guesses, and time will bear out their truth. Let me suggest some additional possibilities: First, the decision whether to sue Theranos for fraud will rest with each investor. This is the opposite from the class-action context, where experienced lawyers seek out representative plaintiffs. Individual investors in Theranos are likely to be repeat players in the medical technology industry, who will want or need to work again with the bankers, lawyers, industry experts and others they worked with on Theranos. Maybe the investor’s analyst went to college with one of Theranos’ bankers. Maybe they interned together. These type of relationships are valuable, and litigation could wreck them. Second, by definition, Theranos investors are risk-takers. They aren’t putting their life-savings into Theranos, they’re not expecting a slow, steady ROI, and they are well-aware that investing in a startup could mean losing the entire investment, even if everyone involved is scrupulously honest and putting out maximum effort. When a startup like Theranos fails, there’s a strong tendency to just want to move on to the next one. Years of protracted litigation are an unnecessary drag; looking backward when the goal is to look forward.

Now consider the Volkswagen litigation. The plaintiffs’ lawyers need not have any connection to the auto industry or with Volkswagen in particular. With some obvious exceptions, Volkswagen owners and shareholders are strangers to Volkswagen the company. Class-action litigation isn’t going to bother the car owners or non-institutional shareholders all that much, because they’re not going to be intensely involved in the day-to-day jousting in the way a Theranos investor would have to be. When the plaintiffs’ lawyer emails you to ask if he can put your name on a lawsuit or join the class, the answer’s likely to be “Sure, why not?”

The result? Volkswagen 350+ lawsuits (later consolidated and resulting in a record settlement, pending judicial approval) Theranos 0. For now.

About Adam Hirsch

Adam represents a wide variety of clients, ranging from individuals to small business owners to large corporations. He has a particular focus on business and investment disputes, and has experience litigating such disputes in numerous state and federal courts. He has also represented business clients in arbitration and mediation proceedings. Adam also represents employees in…

Read More »

Leave a Comment:

Share
Hide