The Fairy Tale May Be Over

The Copper Mountain securities litigation in the N.D. of Cal. is a font of notable decisions. As reported in The 10b-5 Daily, Judge Vaughn Walker issued a fairly amazing order in February expressing displeasure with both plaintiffs and the 9th Circuit over the lead plaintiff/lead counsel selection process in the case. After questioning whether the mandamus proceeding initiated by one of the lead plaintiff candidates was a “fairy tale” when the successful appellant decided not to pursue the position, the court ended up reappointing the original lead plaintiff.

With the lead plaintiff issue finally settled (after three years), the court was able to turn to the motion to dismiss. Last week, in In re Copper Mountain Sec. Litig., 2004 WL 725204 (N.D. Cal. March 30, 2004), the court granted the motion. The decision’s opening paragraphs present an interesting overview of the particularity requirement in fraud on the market cases (especially for defendants):

It is well-known that the Private Securities Litigation Reform Act (PSLRA) and FRCP 9(b) impose a particularity requirement in the allegation of securities fraud. This is especially important in the case of a complaint alleging open market fraud or fraud on the market, such as the complaint at bar.
The starting point for the particularity analysis is not the allegedly false or misleading statements of the defendants, but the truth that emerges from the market. An open market trades on different points of view of an issuer’s prospects. If all investors thought the same things, there would be no trading except that prompted by the need of investors to re-balance their portfolios among investment alternatives (i.e., cash versus bonds, stocks versus cash, etc). What matters in an open market case is the total mix of information in the market and whether that mix has been altered in some significant way to create a very widely, indeed essentially universal, but wrong view of the value of the security at issue. It is the “truth” that reveals the “error” of the market. The disclosure of this “truth” avulsively changes the price of the security. But disclosure of a market “error” does not make out a case of “fraud on the market.” Starting with the “truth,” the complaint must allege facts to show that the previously settled but false investor expectations can be laid at the feet of defendants. This may seem simple, although it is not easy to do.

A complaint satisfying the particularity requirement does not require rococo factual detail, but it does require specifics. So a plaintiff seeking to allege open market securities fraud does well to begin the analysis with the “truth,” stack it up against what preceded it and then see if acts, omissions or statements of defendants can plausibly be said to be responsible for the “truth” not emerging earlier when plaintiffs traded their securities.
Generally, open market fraud complaints fail to satisfy the required pleading standard in one of several different ways. Most often plaintiffs cannot identify a false statement of defendant that might account for causing a security issue’s price to be distorted. Even if a statement that turns out to be false can be identified, it is usually so laden with cautionary language as to be unactionable as a practical matter. In the more common omissions case, plaintiff may be unable to find a ground upon which to allege that defendant knew the omitted fact or had a duty to disclose it. This complaint illustrates these various shortcomings.

Holding: Motion to dismiss granted (with limited leave to amend).

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