The “Indirect-Supplier” Doctrine: First Circuit Clarifies Duty to Disclose Supply-Chain Risks in Securities Fraud Actions

Introduction

In State Teachers Retirement System of Ohio v. Charles River Laboratories International, Inc., the United States Court of Appeals for the First Circuit reversed, in part, a district-court dismissal of a securities-fraud class action. The opinion breaks new doctrinal ground by holding that when an issuer elects to speak about supply-chain disruptions, it must do so fully and fairly—including risks posed by indirect or intermediary suppliers. Half-truths that technically reference only “direct” suppliers while omitting known problems in upstream tiers can constitute actionable misstatements under Section 10(b) and Rule 10b-5. The decision also reinforces a robust inference of scienter when management uses careful wording to mask known risks.

“Such careful phrasing smacks of a ‘cleverly crafted’ way of leading investors astray.” —Kayatta, J.

Summary of the Judgment

The panel (Judges Montecalvo, Lynch, and Kayatta) reversed dismissal as to one set of allegedly misleading statements made on 30 November 2022.
The court held that plaintiffs plausibly alleged:
- (1) materially misleading statements regarding the impact of a federal primate-smuggling indictment on Charles River’s supply chain; and
- (2) a strong inference of scienter under the Private Securities Litigation Reform Act (PSLRA).
The panel affirmed dismissal of an alternate theory based on boilerplate “may rely on non-preferred vendors” language.
The matter was remanded for the district court to address loss causation and the § 20(a) control-person claim in the first instance.

Case Background

Charles River Laboratories (“CRL”), the world’s largest provider of outsourced non-clinical drug-development services, relies heavily on long-tailed macaques for pre-clinical testing. When China halted wildlife exports during the COVID-19 pandemic, CRL pivoted to Cambodian and Vietnamese suppliers—many linked to the Vanny Group. In late 2022 the U.S. Department of Justice unsealed an indictment accusing Vanny executives of trafficking wild-caught macaques. At the time, CRL’s CEO publicly assured investors that the indicted entities were “not a supplier of ours” and that any impact on CRL would be minimal. Yet CRL had, through intermediaries, sourced a significant portion of its primates from those very suppliers, and U.S. Fish & Wildlife officers had already seized multiple CRL-bound shipments.

Analysis

A. Precedents Cited and Their Influence

Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (2007) – Governs the “strong inference” standard for scienter. The First Circuit drew heavily on its instruction that courts weigh competing inferences holistically.
Omnicare, Inc. v. Laborers Dist. Council, 575 U.S. 175 (2015) – Clarifies when opinions or statements of belief are actionable; cited for the principle that reasonableness is judged from the perspective of a reasonable investor.
Construction Industry & Laborers Joint Pension Trust v. Carbonite, Inc., 22 F.4th 1 (1st Cir. 2021) – Quoted for summary-judgment standards and the requirement to accept well-pleaded facts at the Rule 12(b)(6) stage.
SEC v. Johnston, 986 F.3d 63 (1st Cir. 2021) – Provides the “half-truth” framework; the panel analogized CRL’s statements to the “cleverly crafted” omissions condemned in Johnston.
Meyer v. Jinkosolar Holdings Co., 761 F.3d 245 (2d Cir. 2014) – Cited for the proposition that once an issuer voluntarily speaks, it must tell the whole truth on that topic.
Karth v. Keryx Biopharmaceuticals, Inc., 6 F.4th 123 (1st Cir. 2021); City of Miami Fire Fighters & Police Officers’ Ret. Tr. v. CVS Health Corp., 46 F.4th 22 (1st Cir. 2022) – Quoted for materiality and the “total mix” of information standard.

B. Core Legal Reasoning

Material Misstatement/Omission
– CEO Foster’s statements that the indicted supplier was “not a supplier of ours” implied CRL’s supply chain was insulated.
– Because CRL knew it obtained macaques indirectly through intermediaries tied to the indictment and had already experienced seizures, the statements constituted actionable half-truths.
Duty to Disclose Indirect Supplier Risks
– By choosing to speak about the indictment’s effect, CRL assumed a duty to speak fully, not selectively.
– The panel rejected CRL’s argument that investors would parse “supplier” to mean only “direct” counterparties; context made such parsing unreasonable.
Scienter Analysis
– Careful insertion of the word “direct” showed intentional wordsmithing, supporting a strong inference of recklessness or intent.
– Seizures, subpoenas, and public links between CRL’s intermediaries and the indictment negated any innocent-mistake inference.
Loss Causation Deferred
– Whether price drops on 12 Jan 2023, 22 Feb 2023, and 15 Mar 2023 were corrective disclosures remains for the district court.

C. Potential Impact of the Decision

New “Indirect-Supplier” Doctrine – Issuers cannot shelter behind the formality of direct contracts when upstream suppliers create known risks. Disclosures must capture material indirect relationships.
Broader Supply-Chain Transparency – Public companies in pharmaceuticals, technology, apparel, and ESG-sensitive sectors should re-evaluate risk-factor language and conference-call scripts concerning Tier-2 and Tier-3 suppliers.
Heightened Scienter Scrutiny – Courts may treat linguistic precision aimed at minimizing perceived exposure as evidence of intent, not caution.
PSLRA Pleading Standards Clarified – The decision demonstrates that circumstantial allegations (seizures, subpoenas, public admissions by intermediaries) can collectively satisfy the “strong inference” test.

Complex Concepts Simplified

Section 10(b) / Rule 10b-5 – Federal provisions prohibiting fraud in connection with the purchase or sale of securities.
Half-Truth – A statement that is literally true but misleading because it omits critical context.
Scienter – A mental state embracing intent to deceive or at least recklessness (an extreme departure from ordinary care).
PSLRA “Strong Inference” – Plaintiffs must allege facts making fraudulent intent at least as plausible as any innocent explanation.
Loss Causation – Plaintiffs must connect a stock-price decline to revelation of the truth after earlier misstatements inflated the price.
Indirect Supplier – An upstream actor that does not contract directly with the issuer but nonetheless provides essential inputs via intermediaries.

Conclusion

The First Circuit’s opinion inaugurates a significant refinement in securities-fraud jurisprudence: when a company addresses operational risks, it must disclose known problems with indirect suppliers that materially threaten its business. Boilerplate hedges will not suffice, and strategic phrasing may bolster, rather than defeat, an inference of scienter. As global supply chains grow longer and more opaque, the “Indirect-Supplier” Doctrine is poised to influence disclosure practices across industries. Issuers should audit their public statements, risk factors, and Q&A scripts to ensure they capture the full spectrum of material supply-chain risks—or risk the fate that befell Charles River Laboratories.