Similar to the Merrill Lynch cases, a securities class action was filed against First Union in May 2001 accusing the financial services company of inflating the price of Ask Jeeves stock by issuing “strong buy” recommendations while acting under an undisclosed conflict of interest. In LaGrasta v. First Union Securities, 2004 WL 178937 (11th Cir. Jan. 30, 2004), the U.S. Court of Appeals for the 11th Circuit reversed the lower court’s decision to dismiss the case based based on the statute of limitations. The lower court had found that the sharp decline in the price of Ask Jeeves stock in April 2000, even though First Union was continuing to make “strong buy” recommendations, was sufficient to put the plaintiffs on inquiry notice of fraud, thus making the filing of their complaint more than a year later untimely.
On appeal, the 11th Circuit held that a stock price decline is insufficient to create inquiry notice of fraud. The court laid out five reasons: (1) stock price fluctuations are always possible; (2) Ask Jeeves stock was highly volatile; (3) the stock price decline may have resulted from reasons other than fraud; (4) the investors may have been looking for a speculative investment and therefore expected large fluctuations; and (5) the investors are suing First Union, not Ask Jeeves, so a stock price drop would not necessarily have alerted them to First Union’s misconduct. The court also rejected First Union’s argument that its disclosure of the possibility of a conflict in its analyst reports was sufficient to put investors on notice of the possibility of fraud. Based on the record, the court found that the most it could conclude as a matter of law was that the plaintiffs were on inquiry notice as of June 2000 (less than a year before the complaint was filed) when a Smart Money article expressly disclosed that First Union was in the running to be selected as the underwriter for Ask Jeeves’ secondary stock offering.
Holding: Dismissal on statute of limitations ground reversed. Case remanded for district court to consider loss causation argument.
Quote of note: “[T]he district court’s orders [in the Merrill Lynch cases finding the claims in those cases time-barred] were based only partially on the dramatic decline in the price of the shares. In fact, most of the discussion on inquiry notice by the district court concerns the newspaper articles about the conflict of interest and similar information in the public domain. We view the Merrill Lynch orders as consistent with our own conclusion that, on the face of the complaint, the publication of the Smart Money article exposing the conflict of interest of First Union and Ms. Trabuco was the event which put the La Grastas on inquiry notice.”